The Size and Specialization of Direct Investment Portfolios

47 Pages Posted: 17 Mar 2010 Last revised: 5 Feb 2016

See all articles by Yael V. Hochberg

Yael V. Hochberg

National Bureau of Economic Research (NBER); Rice University - Jesse H. Jones Graduate School of Business

Mark M. Westerfield

University of Washington

Date Written: July 29, 2010

Abstract

Existing models of the size and scope of investment activity traditionally assume an infinite pool of ex-ante identical projects, despite the fact that managers often face a limited choice of projects that vary in quality. In this paper, we investigate optimal project selection in a model in which a portfolio manager observes a limited pool of heterogeneous investment opportunities. We use an order statistics argument to derive predictions on the size and scope of the investment portfolio. Counter to existing models, we show that the number and specialization of investments within a portfolio are substitutes; variables that increase (decrease) the set of available projects or returns to investment activity, such as skill (competition) cause the portfolio to be larger (smaller) and more generalized (specialized). We test our model's predictions and document new stylized facts in a setting with highly skewed payoffs, formalized specialization, and a high shadow cost of access to potential projects: the U.S. venture capital industry.

Keywords: Specialization, Investments, Size, Order Statistics, Venture Capital

JEL Classification: G31, G24, G11, D01

Suggested Citation

Hochberg, Yael V. and Westerfield, Mark M., The Size and Specialization of Direct Investment Portfolios (July 29, 2010). AFA 2011 Denver Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1573307 or http://dx.doi.org/10.2139/ssrn.1573307

Yael V. Hochberg (Contact Author)

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Rice University - Jesse H. Jones Graduate School of Business ( email )

6100 South Main Street
P.O. Box 1892
Houston, TX 77005-1892
United States

Mark M. Westerfield

University of Washington ( email )

Box 353200
Seattle, WA 98195
United States

HOME PAGE: http://www.markwesterfield.com

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