Average Annualised Returns: Pure Alpha, annual return of 15% before fees over the last 18 years.
Ray Dalio bought his first stock when he was twelve years old. It was the early 1960s and since he worked as a caddy he overheard all the golfers talking about the boom in the stock market. He bought shares of Northeast Airlines. What was his investment strategy? It was the only stock that he knew of that was trading below 5 dollars and therefore he reasoned he could buy many shares figuring that was a “good thing”. The company was on the verge of bankruptcy but was acquired by another airline and the shares tripled in value.
In late sixties he attended Long Island University. While there he became interested in trading commodity futures as they had very low margin requirements. After graduating in 1971, he spent the summer as a clerk on the NYSE. This was of course the summer of Nixon Shock and he experienced firsthand the breakdown of the global monetary system of Bretton Woods.
He went on to acquire an MBA from Harvard Business School in 1973 and in the same year became Director of Commodities at Dominick & Dominick LLC. After spending a year there, he traded futures at the brokerage firm of Shearson Hayden Stone, where his role comprised assisting businesses hedge their market risk by using futures. One year later he founded Bridgewater Associates.
Bridgewater applied innovative quantitative strategies to manage money under its two global macro flagship funds. Besides separation of alpha and beta, resulting in alpha portability/overlay and risk parity through systematic diversification in all asset classes, the firm continuously pioneered or enhanced many other strategies: global bond overlay program, advising US Treasury on creation of inflation-indexed bonds, super-long duration bonds for liability management, currency overlay program, and others.
The books lay down the significance of espousing principles in general (regardless of whether they are in agreement with his or not). It then expands on his fundamental principles that guide everything he undertakes in his life.Finally he shows how these principles apply at Bridgewater. The yet unwritten Part 4 is going to be about his investment principles.
Dalio’s basic yet difficult to practise theories are; Setting one’s own goals, using independent thinking to generate ideas on how to achieve the goals, stress-testing the ideas against the smartest brains to find out where they are wrong, cautiously guarding against letting any over-confidence creep in through the ideas and reminding oneself of the virtue of “not knowing”, and finally awareness and acknowledgment of reality as the ideas are executed, experiencing the results of the decision and constantly reflecting upon the process and how to better it.
Now, translating this into investment parlance: (1) Establishing desired returns, (2) Creating a strategy to achieve the returns with the lowest risk possible, (3) Back-testing and detailed analysis and challenging of the strategy, (4) Deploying the strategy with diversification, spreading the bets because one does “not know” what will actually happen in the future, and (5) Readiness to acknowledge the strategy is not working because of the current realities of markets and tweaking it accordingly.
The third part of the book extrapolates hundreds of decision-making rules from this five step process that are applied by all employees regardless of their rank in the firm. The decision making tools have actually been incorporated in the firm’s proprietary software so that there are numerous check points before a strategy or tactic is executed. Also, true to the fourth principle of challenging one’s investment thesis against the best of the best, at Bridgewater all employees are encouraged to challenge anyone’s ideas without regards to their seniority. In essence the book has become the cornerstone of how to continuously generate improvement and innovation in money management at Bridgewater.