Ray Dalio, founder of the largest hedge fund in the world, is one of the most influential people alive. Throughout his career, he developed a unique view of how the world works. He put his lessons out there for everyone to learn.
It is one thing when you are an economist in universities doing research. It is totally different when you have to bet your own money on your research. Ray Dalio is different because he has skin in the game. He bets billions of dollars on his theory of the economy.
“His advice and wisdom are eagerly sought on financial and economic matters by policymakers around the world,” says Larry Summers, president of Harvard. That is because Ray Dalio put more brainpower into understanding the economy than even the central banks of the world. The American Economic Association awards researchers up to half a million a year to do their research. But that is nothing compared to the amount of money Bridgewater spent on their independent research on how the economy works. In his pursuit of understanding how the economy works, he became one of the richest people in the world, worth $16.9 billion.
Ray Dalio has led a successful life and career. After retiring from Bridgewater, he has been sharing his principles of success. What I admire Ray Dalio the most is that he is someone who has a lot of dreams and ambition, but very realistic and strategic in the ways and methods to achieve his goals. He is never afraid of trying something new, even if that means he might fail. With that mentality, Ray Dalio managed to build a consulting business and made his first million all before the age of 30.
Born in New York, Dalio was a natural Entrepreneur. The world of finance captivated him. He taught himself how to sell short and by the time he was in high school, he had already created a stock portfolio worth several thousand dollars.
Dalio thrived in college. He did so well that, after graduating, he got accepted to Harvard Business School. Although Dalio flourished in Business school, he wanted to have more real-world practice. In 1972, the summer between Dalio’s two years at business school, he became an intern at Merrill Lynch as a commodity trader.
Commodities in the 1970s have low margin requirements and are relatively obscure. At that time, they are like the cryptocurrencies today, very volatile and there are a lot of speculators in the space.
On August 15, 1971, President Richard Nixon announced the U.S. would stop using the gold standard to control inflation. The breakdown of the monetary system in 1971 pushed commodity prices higher and created the first oil shock in 1973. To combat inflation, the Federal Reserve tightened monetary policy, which brought on the worst bear market since the Great Depression.
More than ever, Dalio wanted to take part in the commodity trading business. After graduation from Harvard, he got a job at Shearson Hayden Stone as a commodity trader.
At Shearson, Dalio was in charge of the hedging business, advising clients on how to hedge their business risks. Hedging is just like buying an insurance contract. In commodities, you can buy a contract that says you can buy, say soybeans at $10 per unit. This will give you peace of mind. You don’t have to worry about the price fluctuation of soybeans.
But Dalio’s career was short-lived. He was fired, after having a drunken argument with his boss on New Year’s Eve in 1974. Dalio decided to strike out on his own. He was 26 years old.
In 1974, Ray Dalio started his company in his two-bedroom apartment in Manhattan on New Year’s Day. He called it the Bridgewater. His business model was simple. He would do his best to study the commodity market. Then, he shares his insights with his clients.
In the late 1970s, many American businesses started their global expansion to the international markets. As a result, they exposed themselves to various currency risks and commodity risks. Dalio understood currencies, interest rates, and commodities. While working at Shearson, Dalio has built strong relationships with their clients, who now continue to pay Dalio for his advice.
Dalio built a reputation for quality research on macroeconomics. He publishes his thoughts in Daily Observations, His newsletter at the time. It became widely read by corporate executives, policymakers, and central bankers around the world.
In a way, Ray Dalio was a brilliant content marketer. Even to this day, if you take a look at his LinkedIn, he consistently publishes his finding to the world. He understood the power of a personal brand before the term even existed.
Soon, Dalio has attracted a following of powerful players in Business. One of them was McDonald’s. He created a hedging strategy for McDonald's to minimize its exposures to the volatility of chicken prices. This allows McDonald’s to keep a stable price for the Chicken McNuggets.
Dalio was content with his consulting business because it allows him to do what he loves the most — understanding how the economic machine works. But in 1985, after benefiting from Ray Dalio’s advice many times, the World Bank decided to give Dalio $5 million as a test portfolio.
This is the beginning of Ray Dalio’s career as a money manager. In that time, most money managers follow a benchmark, say sp500, to judge how a portfolio performs. But Ray Dalio wanted a portfolio based on pure alphas. “There is a separation between alpha and beta. Most investors will probably lose money because the market is a zero-sum game,” explains Dalio.
When we talk about returns, they can come from two sources -
The first source is the beta, which is the kind of returns you’d get because of the overall market conditions. If the economy does well, you make more returns from beta, vice versa.
The second source of return is the alpha. That is the part of return where you have some kind of informational advantage over others. They are independent of each other. Suppose you notice that there are more cars in Walmart’s parking lot this Christmas season. You are confident that Walmart will beat these quarterly earnings. The return you make from this bet is alpha. In probability theory, we call them independent events.
The pure alpha portfolio is a collection of these independent bets, all based on Bridgewater’s unique understanding of the market better than any other participants.
This strategy proves to be a success. Although it doesn’t have the best annualized returns, it is uniquely uncorrelated to the market, proving to be a great alternative investment for its investors.
In 2020, Bridgewater has $138 billion under management, making it the largest hedge fund in the world. But Dalio’s ambition was never to become rich. Rather, he views money as a byproduct of his desire of seeking truth! What separates him apart was his willingness to do whatever it takes to figure out how things really work.
