Sam Altman, CEO of OpenAI and former president of Y Combinator, recently shared insights on the two biggest mistakes he made when he first started investing in startups. In a video sourced from Y Combinator, Altman revealed that being overly influenced by other investors and misunderstanding the power law initially led him to invest the wrong way.
According to Altman, his first mistake was placing too much importance on what other investors thought. He explained that many new investors rely heavily on validation from previously successful investors rather than trusting their own judgment. “The number one mistake was that I cared too much about what other investors thought. I think this is a very common mistake that people make when they start investing. You get very swayed by what previously successful investors think,” Altman said.
He noted that this creates a herd mentality where startups can gain attention for no apparent reason. “There’s this weird schooling effect where a company gets hot for no discernible reason… And it’s just because a few people decided they liked it,” he added. His second major mistake was failing to understand the power law of venture investing, which states that a single exceptional investment often generates more returns than all other investments combined.
“The power law means that your single best investment will be worth more to you in return than the rest of your investments put together. Your second best will be better than three through infinity put together,” Altman explained. “This is so counterintuitive that it means almost everyone invests the wrong way.” Many angel investors, he said, focus on minimising failure rates rather than prioritising investments with the potential for exponential success.
“Angel investing is a business of home runs. It’s all about the magnitude of your biggest success. You can have 95% of your investments fail if one of them returns a billion dollars, and you’ll be totally happy,” he said. Altman stressed the importance of looking beyond potential failures and instead evaluating how massive a startup could become. “The first question that I try to ask myself when I meet a startup is not why it is going to fail… The first question is, how big could this be if it works?”
He noted that the best investments often seem like bad ideas at first, making them easy to dismiss if investors focus too much on potential downsides. “The companies that could be giant are at this intersection of ‘sounds like a bad idea’ but is actually a good idea. And because they sound like a bad idea, the best investments are the ones that are easiest to talk yourself out of,” he said.