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Hedge Fund Legend Ray Dalio On The Economy

Feb 27, 2020
Ray Dalio is the founder and chief investment officer of Bridgewater, the largest and most successful

hedge

fund

in the world, and is a best-selling author coming off the launch of the principles we'll talk about in a minute, but welcome, I say. I wrote one of the largest and certainly most comprehensive analyzes of debt crises I have ever seen. You say this pattern repeats itself over and over again. Why write a book about this? Well, I'm at a stage in my life where I want to pass on the principles that helped me. This was actually research that was done before the 2008 financial crisis and it lays out a blueprint for how these things happen over and over again;
hedge fund legend ray dalio on the economy
In other words, I believe that the same things happen over and over again and if you study their patterns, you understand the cause-effect relationships and then you can write down principles to deal with them. We handled them very well in that financial crisis and in other debt crises and I wanted to convey that model to them, it's really only in the first 60 pages of the book, so it's not a great read if people want it and you're giving it away, which is great, where are we in the current debt cycle? You often hear a lot of talk about debt, obviously.
hedge fund legend ray dalio on the economy

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hedge fund legend ray dalio on the economy...

Ten years have passed, as seen in the financial crisis, but debt continues to increase. The deficit is skyrocketing in the United States. Where are we in the cycle? I believe there are six stages in the cycle. I'm going to touch on them briefly. the first part of the cycle, where the debt is used to create productivity income and then it can pay off well, asset prices go up, everything is great and then you get to the bubble phase of the cycle and in that bubble phase you are in a position where everyone extrapolates the past because assets go up, they think assets are going to continue to go up and you borrow money and they get leveraged and when you're in that phase it does, when we do the math right, it could start to see that you may not be able to sustain that level of debt growth, then you will enter the third phase of the cycle, which is the top of the cycle where central banks start to slow down, tighten monetary policy and then you enter the bearish stretch and when interest rates reach 0%, you enter a depression, part of that cycle because monetary policy does not work normally, when interest rates reach zero, then you have to have quantitative easing and you start that expansion and then you take that and you start the cycle, so I think the period we're in is very similar to the period we were in in the 1930s, if I may explain it absolutely, okay, there's only two moments in the history of this century where we had a debt crisis in which interest rates went to zero and both times the central bank had to print money and adopt a different type of monetary policy that we call quantitative easing and buy financial assets and that does raise the In both cases, the value of those financial assets and produces a recovery, but it causes interest rates to drop to zero or close to zero and where they are around the world and that the purchase in this case of fifteen trillion dollars in financial assets has raised the value of financial assets. assets and drove interest rates to zero, which caused asset prices to rise, it also caused populism, more populism because that process creates a gap between the rich and the poor, those who have more financial assets now see that the asset prices rise and for various other reasons a wealth gap has developed if you look at right now, the top 10% of the 1% of the net worth of the population is equal to the bottom 90% combined, that is very similar to the late '30s, when we had that stimulus, etc.
hedge fund legend ray dalio on the economy
So we are in a situation where we are in the final part of the cycle where quantitative easing has been used, most energy asset prices are going up, interest rates are low and we are starting to tighten a lot monetary policy. It is very similar to what we started in 1937 and we have a political situation in terms of greater conflict between the rich and the poor, which is causing populism. Populism around the world is the selection of strong-minded leaders who sort of take but we tend to be more nationalistic and that's why we're in that kind of position and you've written extensively and articulately about what happened after 1937, it's I mean, we went through a real wave of populism and nationalism and we got to World War II and all the horrible things that happen there, what do you think is happening now, given where we are?
hedge fund legend ray dalio on the economy
I think cause and effect relationships are analogous, meaning if you have a wealth gap and you have a slowdown in the

economy

where you're sharing the pie, how if you split a budget, share the budget, is there a risk of that both sides are at odds with each other, there is also a greater international risk in tensions, economic tensions produce global tensions for various reasons, so I think that in this expansion we are in the seventh. entry of a nine-inning game, let's say we are in the latter part of the cycle, the part of the cycle where monetary policy is tightening and there is not much capacity to exit the

economy

and that as interest rates tend to rise if they increase faster than what is discounted in the curve, it can hurt asset prices and asset prices are quite valued at this level of interest rates, at some point we are going to have a recession because that is why that we have recessions, nobody understands it perfectly and my concern is what that recession would be.
I think that's not immediate, we don't have the same pressures, but I think maybe it will be in two years, I can't say, but I think what worries me is what worries me. Me too at the international level because the situation at the international level is quite similar to that of the late 1930s in the sense that in these periods of time these geopolitical cycles there is an established power and an emerging power that then have a rivalry at the beginning it's an economic rivalry and then it can become quite antagonistic, so back then, World War I between the United States and England, we had peace, but then when there was a rising Germany and a rising Japan, that kind of thing emerged. of economic rivalry that became more antagonistic.
I think we have a situation. where there is a rising China and the United States is an existing economic power and there is a rivalry about it and there may be an antagonism about it, so when I look at it, I think the parallels are quite similar, does that mean the same thing? The results have to happen well, but that means that I think we have to be alert to the fact that, in the future, in a recession, monetary policy will not be able to be as effective as it was last time, so we have to be cautious about a recession.
I would say err on the side of having a little more wiggle room and be and then we have to worry about the wealth gap and the geopolitical consequences and if we don't want to repeat what happened in the late 30s and 40s, what do we do? What I have to do is have studied history, the correct way to handle this and avoid it well. I think one of the things is to make sure that capitalism works for the majority of people, to look at the bottom 60% of the population and use that. That, as a metric, to say is whether to improve or not and how to address that wealth gap and it's not just a wealth gap.
I think it's more important that the wealth gap is an opportunity gap that people should be useful in being able to have. jobs, etc., so I think there should be something that should be considered, you know, an imperative. I think we have to think about our balance of payments situation and the amount of debt we are producing. We are in a very privileged situation. position of having a reserve currency One of the things that distinguishes countries that really have problems from those that are capable of managing their debt problems is whether the currencies denominated in the debt are denominated in the currency itself, which forces us to do so to continue to maintain strong core finances, I think we are going to have a constraint that will not only be related to debt but, even more importantly, to the pension and healthcare obligations that will occur, so I think these will be tough times, no not immediately, but I think I think maybe in a few years and I think it will depend a lot on how we relate to each other, so let me ask you about both first.
How can we make capitalism work for everyone? It seems like part of the problem is that, as you pointed out, the growth and asset values ​​are not accruing for 60 to 80 percent of the population every time you suggest that companies pay people more, the financial class, well Sal, that's outrageous, they should be free markets, we can't have a minimum wage and it should be good. Iran was right, you want to increase, you get a bargain in return, so why do you obviously care about the economy? How can we make capitalism work for everyone without ruining it? I think the first thing you should do is realize it. which is a problem like a national emergency.
I would like the president to declare it a national emergency and then use metrics to judge that, in other words, take the population of the bottom 60%, 60% and take those numbers and do the metrics and then put together a commission of people, a bipartisan commission to deal with this. I think there are many things that could be done. I see it to a certain extent philanthropic, the latest in education, for example, in education we are in a situation where In many cases, terrible, terrible conditions in education, literally in schools, I know that children have to share pencils, They break a pencil and a half and sharpen it at both ends or pass it back and forth, they don't have any proper books there.
There was a day when those kids in Connecticut, where the state that I'm from, which is the richest or certainly one of the three richest states in the country, we have 22% of the popular population that is offline or disconnected and and so I'll tell you what that means a disengaged student is one who attends high school but doesn't participate doesn't really study doesn't make progress a disengaged student is one who doesn't even know where he is 22% of the population of Connecticut is one of those and the High school students are one of those, those are students who won't be able to be productive, they'll be on the streets if you look at the cost of incarceration.
The cost of incarceration is typically between 85 and $125,000 a year in terms of that, so there were certain things. I think public-private partnerships could be created to make these some programs work well. I support, I support, for example, microfinance. able to achieve there are many things forget the things I'm supporting. What I'm saying is that if we take an initiative and say a national emergency and you bring others together and establish metrics like good management of that, I think yes. They will be moving forward to address that in a public-private partnership and I don't know what will happen.
I don't think that's going to happen. I have no prospect of that happening, so I'm a little worried. What will the next recession be like? Will it require us to raise taxes? Because the other problem, as you point out, is debt and the growth of debt is accelerating with the recent tax changes every time you mention the idea of ​​more money for education or more money. to other social services, a lot of people got scared and said we can't afford it, so are you suggesting we need an increase in the tax base? I think this is most likely the case, but the real problem is mainly productivity in other social services. words to unleash productivity there was a time when we were in part of the world for the workforce and when they entered the workforce that caused the great productivity boom.
I think that if we make it our mission that this group becomes much more productive and has the Opportunity. I mean, I think that the country you know is what we are. I think it should be the land of opportunities and we bring them together and produce those opportunities because that produces productivity. Candidate Trump returned to debt. He campaigned on how terrible the administration was. making the debt was growing now president trump has a big new fiscal plan that has radically accelerated the growth of the debt given his concern and experience in dead cycles are you concerned about what is happening at this stage of the cycle in terms of the growing private sector debt? sector debt for the most part I don't have a lot of worries because when we do our pro form of financial numbers and we look, we see pockets that are probably going to have trouble paying their debt, there's a lot of cash around. worried over about a two-year period about the amount of dollar-denominated debt that we're going to have to sell overseas because we're going to have to finance deficits and then, on top of that, we'll have our balance sheets, the Federal Reserve The balance sheet goes down and that will involve a significant amount of selling dollar-denominated debt.
When I lookthe portfolios of different entities that have different amounts, I think it will be more difficult to sell that amount of debt. I think it will cause upward pressure on interest rates, but the way it works is that the pressure will be negative for the economy, say two years from now, but probably at that point it will also be more negative for the dollar right now. , we are in a short squeeze $4 because there is a lot of debt denominated in dollars, a debt is a short position in dollars because it is a promise to deliver doubtful dollars that it does not have and when there are many countries that borrowed in dollars and have their cash flows in local currency, as we see it in Argentina, Turkey and Brazil, in other countries they are in a debt crisis that causes the The debt against the dollar will increase and that handshake will be approved in two years, at the same time that we are going to have to sell a lot more dollar-denominated debt and I think that would probably be bearish for the dollar.
At that point, know that there are parts that are not the same sectors as last time, but different parts, so you have had one of the most successful careers in history and you have invested huge sums of money while you look at where we are in the cycle. I think normal investors should say where it's not an immediate problem, but within a couple of years we may have a recession. How do you invest in a retirement portfolio? In light of that, I think there are two key parts of investing. your strategic asset allocation and then there are moves, there are tactical bets and alpha and I think the average guy shouldn't try to make tactical bets to try to produce alpha because he's going to be wrong, alpha is better than average, in other words saying now is the time to buy now is the time to sell this market moment, don't do that, the story is clear.
I remember learning this when Peter Lynch ran the Magellan

fund

and there was the best performing stock fund in the entire stock market when the stock market was better and the average investor lost money on it and how was that possible? And the reason why is possible is that it was very hot and the ads were there, people bought and when there was a period of poor performance, they went out and got scared and therefore market timing is a very difficult thing, It's a very difficult thing for us, we invest hundreds and millions of dollars every year, we have sixteen hundred people in Bridgewater, it's a difficult game, so I would say you shouldn't try to do it. play that game where they have to understand how to achieve balance and diversification and trade now how to do it is a conversation that is a longer conversation Injured Tony Robbins interviewed me about it and made a very simple book as part of the investment. is described there, but there are ways to achieve balance that cost you no return and significantly reduce your risk, so I would recommend that you come up with a balanced portfolio, what we call an all-weather portfolio, but something that means that we are not exposed to any particular type of environment and is the same portfolio in entry seven of the debt cycle.
That's right, if you're going to play the cycle, then realize that the time to buy is when there is blood on the streets. Okay, and then you sell when everything is going great and everyone is extrapolating from the past and you're near the end of the cycle because as you get in, your unemployment rate goes down and asset prices are high and debts pile up and everyone is extrapolating. the past the past will not meet expectations and that's the time to sell, but it's very difficult for people to get away from the crowd and do that and what do you observe to know that now everyone is excited and everyone is extrapolating the future and I'll give you an example: two years ago we talked about a lot of concerns about the stock market and valuation and you said, Henery, relax, we are in the middle of the cycle, now you say we are in the seventh inning what should I look at as a normal person to tell me? okay, it's an out on the ninth time to start transferring and prepare for disaster okay, first of all, look at how much slack is left in the cycle okay, where's the unemployment rate?
Where is the capacity? What is the central bank doing? It is a restrictive monetary policy or it is an easy monetary policy. So how much slack? Second, you look at how much debt has been used to finance those purchases. Well, thirdly, you look at the amount of feeling. you know, the euphoria and so on, I would say you can see the price of how much debt it is, how much growth is included in the price, in other words, comparing the stock yield and the bond yield and you look at the price. Look at credit spreads and things like that, they paint the picture of the future, that's the discounted future, and if you look at that picture of the discounted future, that picture is an extrapolation of what happened in the past to something that is unlikely to happen. in the future. then you would know that the prices are too high and then you have to think about the timing.
Let's talk about something else, which is that you recently wrote a book called Principles, it's a New York Times bestseller and it's read by people far beyond the financial industry side. What you are talking about is the culture that you developed at Bridgewater and that you yourself say is not suitable for everyone, it is difficult, it is like the hallmark team of corporate environments, only certain people can handle it and in the book you lay out the principles that have helped you. be successful, what have you learned from feedback from the outside world as people have digested the book that makes you change any of those principles?
The main thing is that it didn't happen that way and the meaning is that it's very simple in one sentence, what I want is meaningful work and meaningful relationships through radical truthfulness and radical transparency because they are mutually reinforcing and that's what worked for me . If you're on a mission to do great things, you understand the world and you try to do great work together and you're tough on everyone. others, but also developing those meaningful relationships so that they feel like they are sharing each other's lives and that they are committed to that mission that is very powerful but radical truthfulness so that they don't kiss each other and really know what it is. is happening and you could be totally straightforward in terms of even looking at people's weaknesses and their mistakes so that you can learn from them and so that radical truthfulness and that radical transparency so that people can see things for themselves for me there has been been a miracle formula. and so on and so on and I'm very happy because I literally don't know, I don't know if it was tens of thousands or hundreds of many people who thanked me for changing their lives, however, having said that, I don't.
I think my principles are important, you can choose the principles you want. What I learned when I was moving forward is that every time I made decisions, they got paid, especially after mistakes, it was worth writing down what my principles were for dealing with that. Next time I go around I think the important thing is that people choose their principles for themselves, so one of the things that excites me is that people also do it for themselves. I don't want them to follow my principles. I want you to think carefully about what works and then think about being clear about your own principles to realize that the same things happen over and over again, so that every time you have an experience, especially if you have a bad experience, a painful experience, there will be lessons. to learn and ways to change and principles to develop so that you can do better next time and I, and one of the key principles is to know that you do not know what is best, necessarily separate yourself from your individual opinion to have a Fear of being wrong I have a tremendous fear of making mistakes because in the market you learn that and if you don't learn that, that gives you an open mind to assimilate from other people what you have learned those types of things.
I'm excited that people are learning, so I'm excited that this will continue for a short period of time and then I'll go silent because what I've done is so you guys know what I'll have done. These principles are passed on like this, these principles of debt, I think they could help and there is another one that comes after that, we have principles of life, principles that I wanted to write before this. I wrote this debt, one was economic and investment principles because I think there were two things I learned through the experiences of my 43 years running Bridgewater and supervising in various ways: how to run a company with a unique and orderly culture and how to participate in the economic and investment area, so I wanted to convey them, so it will come, but I don't know, within 6 or 12 months.

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