[ramphastidae]

LPs don’t invest in funds to beat the market. By the time they are investing in VC they have already have millions in traditional investments like index funds, real estate, etc. VC investments are a high-risk, high-reward play.

[hendzen]

Individual VC investments are a high-risk, high reward play, but for an LP, investments in large baskets of VC investments via VC funds are ideally intended to collect an uncorrelated risk premium. The idea isn't to simply to beat the SP500, its to diversify, and thus improve risk adjusted returns, of their broader investment portfolio.

For large institutional LP's like pension funds, endowments, charities, etc, they need steady smooth returns that they can draw upon year after year to fund their beneficiaries. In particular a down year really hurts them since they will have to draw down on their principal. This is a very different risk calculus to an individual saving for retirement who can stomach 30-40 years of stock market volatility with a good probability of having enough money at the end of their career.

So rather than chucking the bulk of their fund in to the asset with the highest expected returns as an individual might, these institutional investors buy a big basket of very different return streams (i.e. as uncorrelated as possible) to smooth out the bumps in each one.