Fireside Chat with Ray Dalio | LSE AIC

Well, yeah, gladly. And by the way, that's why I'm here today, right? I'm at a stage in my life where it's a joy to be able to pass along to you all, who I relate to very well, you know, in terms of your transition. I just gave a commencement address at the college that I went to, and you know, it was 55 years of learning since I graduated from sitting in their seats. And so, you know, life is a journey, and until you get out there, you don't know a lot about what it's like. And so it's a joy at my stage in life to be able to pass along whatever I can that's of help to you. Okay. So, when I was 12, I caddied. I did odd jobs, but I caddied. And I walked around with, when the stock market was extremely hot. This is in the late 60s. And everybody was talking about the stock market. So, I took my caddying money. I earned $6 a bag. I carried two bags. I went at $12. When that mounted up to $50, I would put it in the stock market. And the first stock I bought was the only company I ever heard of that was selling for less than $5 a share. And my idea at the time is by doing that I would buy more shares and so if it went up I would make more money. Now that was of course a dumb strategy and the company was about to go broke, bankrupt, but another company came along. It tripled. I tripled my money and thought I was smart. Thought this game was easy and I got hooked on the game. So I got hooked on the game. It's like a video game. I mean, there's a game of investing which is a blast as well as very profitable if you do it well. And so, I've had these experiences along life. I'll tell you just a couple of more. So, when I graduated from college, 1971, I worked on the floor of the New York Stock Exchange as a clerk. And I followed the markets and on August 15th, 1971, President Nixon got on the television and told the world that the United States was defaulting on its obligation to let them turn their paper money in for gold. I mean, he didn't phrase it that way, but that's what he was doing. And I thought, wow, that's a big crisis. And I went down on the floor of the stock exchange and I thought the stock market was going to be down a lot and the stock market was up a lot because I never went through a currency devaluation before. So I studied history and I found out that in March 1933, President Roosevelt did the exact same thing on the radio. Now it's the same thing. And the stock market went up a lot because what it was is the devaluation of money and the increased supply of money had that effect and I realized that at that point I realized that many important things happened before my lifetime that I couldn't rely on just the things that I experienced in my perspective. And so I studied the 1930s, I figured in history I need to understand, you know, all big things that happened. And so I studied the Great Depression. And then, because of that, was able to anticipate the 2008 financial crisis, the 2010 to 15 debt crisis in Europe and so on. And so, I mean, I think that's like what life is like, right? So, you're going to, you know, you studied, I think you probably maybe think you know more than you do. And the markets is a great way to test what you really know and what you will learn is from your experiences and reflecting well on them. I found that also my most painful experiences were my best teachers. Nobody likes painful experiences, but when you have painful experiences of being wrong, if you reflect well, it'll teach you something about how the world works, how reality works, and how to deal with it. So, I started to, when I did that, I would then write down my principles. In other words, principles are sort of if-then statements. If this happens, do that. And I would write those down. And then I converted those into algorithms. The reason I built Bridgewater, the way I built Bridgewater into the largest hedge fund in the world and you know made more money than any other hedge fund in existence and so on. The way we did that was through a combination of these learning experiences and then writing them down and putting them in computer code. I, you know, AI is a concept that began in 1958. And I was always using computers to make decisions. The Bridgewater I did and then, but they were expert systems computer code because the computer could process a lot more information better and it would so as a partner was a great thought partner and now with AI, you know, it's fantastic. So I hope we'll be able to talk about that but anyway that's the background.

Yeah, it was such a terrible and great experience, such an example of learning, you know, from mistakes. Yeah. So in 1979 and 80 I calculated that American banks had lent to foreign countries, emerging countries a lot more money than those countries were going to be able to pay back at those interest rates and that there was going to be the biggest debt crisis since the Great Depression. The numbers were very big and that's in Mexico. So I got a lot of attention for that because it was a controversial view. Mexico defaulted in August 1982 and a number of countries defaulted after that. So I was asked to testify to Congress about this. I was asked to appear on the show of the time which was Wall Street Week. And I thought the stock market would go down and I couldn't have been more wrong. The stock market went up and I lost money for me and I lost money for my clients. And I basically I lost so much money I had to borrow $4,000 from my dad to pay for family bills. So it was a humiliating, painful experience and I had to wrestle with the question, am I going to go back and get a job on Wall Street? You know, have to put on the tie and go in the, you know, the rail computer railroad and go down that, you know, I, you know, and but what I learned I learned two things. First of all, I learned humility to balance with my audacity. Which meant basically, you know, to ask myself, how do I know I'm right? You know, to consider the possibility of being wrong, of making like one big bet, and that could have this effect. That seemed pretty stupid. And that then made me so eager to have to have disagreement with others, to thoughtful disagreement. The smartest people I can, I want them to stress test my thinking. And then I also learned what I consider the holy grail of investing. If you can do this, you will be very successful in investing. And that is to have 15 good uncorrelated return streams. It's the math of diversification because when you don't, you don't lower your returns through diversification, you still get the average return of all of the things that you're investing in. But you do lower the risk and if you can get out there and get like 10 or 15, you'll lower the risk by up to 80%. That improves the return to risk ratio by a factor of five. And when I discovered that because of that terrible experience, from then on Bridgewater was straight up, it was, you know, we from that and we always did excellent. So Bridgewater is a, you know, a 50-year-old company. And but it was, you know, that experience. So I want to emphasize to you that you've got to get out there and you have to have experiences. You know, experience, you know, is a teacher. And the question is how good of a learner are you? And if you can reflect on okay what does that tell me about how reality works and how I should deal with reality you will make your progress. The idea of learning by listening to others to tell you what you should do and how you should do it is really, you know, it's an academic exercise that exists only in your early far part of your life because you get in the habit of doing that and also what you're doing can make you arrogant, you know, or even averse to being wrong, you know, like it's an ego thing how well did you do on your and I'm smart and all of that can make you not be good at experimenting, learning and so on. So you will, you know, reality will teach you if you're willing to learn through those painful experiences. But I found out that the painful experiences actually ended up, my reaction to the pain changed over time like okay being wrong losing money whatever, whatever painful experience I've had in life, I react differently to it. I and it's like I view it as a puzzle then, you know, if I can solve the puzzle which is what does that tell me about how reality works and how I should deal with it better and I get a principle that I can write down and remember and make me better in the future then it's a really good experience so my reactions are like that. Another thing I want to emphasize that has helped me a lot is when I was, I think it was 19 years old, I learned to meditate, transcendental meditation. And what that gives is a calmness, an equanimity that when things are coming at you that you have the calmness and the equanimity to reflect and process it. Not only does it reduce the pain, it gives you a sense of clarity. So that also has helped me a lot.

Sure. There are lots of things that are happening now that happened, didn't happen in our lifetimes. And because I learned that lesson and a lot of what's happening reminds me quite a bit of the 1930s, I decided that I wanted to study the rises and declines of reserve currencies and empire and then it showed up with empires and countries and so on. So I studied that over the last 500 years because, you know, reserve currencies can last quite a while and I did a study for myself for managing through this and then I published it as a book called Principles for Dealing with the Changing World Order. So, and I'm very data-based. In other words, there are stories, but also I'm into measurement. And so, you can see in the book a number of charts that paint a picture and so on. So, to give you the nut in a nutshell, what was very apparent is that there are five big forces. I think you basically can cover almost everything they fall under these five forces and they evolve over time. The first is let's say the monetary order. Okay, the monetary order is the way, order means system, the way the monetary system works and that means how money and credit create buying and they create equities and, you know, in their equity markets. It's the whole market economy thing that, you know, you've been studying for a long time how that machine works. By the way, if you're interested in, I think it's a 20-minute video I've put together called How the Economic Machine Works in 30 minutes. It's on YouTube. People like it. It's 140 million downloads. Anyway, there's that machine and that how that force and that force just the way that works is there is a debt cycle. There is a long-term debt cycle that works for countries and individuals and country and companies pretty much in the same way. And the way that is is as debt and debt service payments. Well, let me put it this way. Think of the credit system or the capital market system as being a circulatory system that brings capital to different parts of the economy. And if those parts of the economy produce enough earnings so that it pays back and then you prosper, that's a very healthy system. However, when debt rises relative, debt and debt service payments rise relative to incomes it squeezes out spending. So it's like plaque in the circulatory system. It squeezes out the spending and if that goes on then it produces the equivalent of an economic heart attack and the reason that there's a long cycle in it is when you start with not that problem you can build it up over a period of time and you can measure it and you could see it in statistics and it looks like probably watching an MRI of the heart or something. And then the other part of that is that there's a supply and demand for credit. So, you know, when a government and we'll talk about the, it's I'm now talking about government debt but it's the same for individuals. If you run a deficit that means you have to borrow money you've got to get the money and when you have a lot of money out there and a lot of debt one man's debts are another man's assets. So there are debt assets and there are debt liabilities and so somebody's holding the debt assets which are the bonds or whatever and they're holding it and when they have a lot of it already like there's a lot of dollar denominated debt in the world and you have a lot of that debt and then you're having to sell a lot of that debt because you have to finance the budget deficits. You know, there can be a supply and demand issue and that particularly also a that's a greater risk during times of turbulent times. So now that's I covered force number one. Force number two is political and social differences when they're, in other words, basically the left and the right, the rich and the poor, and values differences. And in cycles when there are very large wealth and values differences and people believe that the system is not working for them then that order is in jeopardy. That political order is in jeopardy. And so you have great conflict when you when it gets so much conflict that you don't even trust the elections or the systems. The system you could have a type of civil war. The systems sort of break down and we are seeing that now in its way in a way that never happened in our lifetimes before. And that has big implications. You know, the first factor, the money and debt and credit thing certainly has a big effect on the political thing and the political thing has a big effect on the other because it affects taxes, how people move from one country to another, for money and all of those kinds of things. And so we are seeing sort of a stretching and almost a fraying of that system. And this is not new. Plato wrote about the system of democracy in the Republic. You know, I don't know was like 450 BC and he described the problems of democracy sometimes when it doesn't work for most of the people and you have these fights. And so everybody can see that. The third force is geopolitical in other words how do countries, you know, and the second it's how do people within countries deal with each other and the third is geopolitical and how do countries deal with each other and the orders the systems and again most of these orders all three of these orders really began the newer versions began in 1944 and 45 as you would know the Bretton Woods monetary system was the first. And then we and many countries there they created their new political systems and then there was the international world order which was largely influenced by an American but also British to some extent sense of representative democracy in a sense. So the United Nations and you know the idea that there would be a world court, a world trade organization, a world health organization and that little countries would have a vote like big countries and that they would work out that system. Was basically, you know, somewhat of a naive system because in order to have this you still have to have enforcement capabilities. You know, you can't. And so what happens if the, you know, the enforcers do not like the verdicts? Are they going to turn it over to the world court and they'll decide and then they'll enforce it? Anyway, that system has broken down. In other words, we have stopped the multilateral rules-based system and replaced it with a power-based system which is very similar to the systems pretty much that existed before 1945. So okay that's change we're just not used to it but these things have existed in history. Number four is throughout all time, you know, inventions of new technologies and of course this is a very important, inventions AI and so on, but we're always enamored with the newest technology. I'm not saying this isn't a unique fantastic new technology, but like if you go back to like the 20s, imagine the late 20s when the bubble began and we had that. Imagine that was the first time you had electricity and houses. So first time you have lighting and you have refrigeration and first time you have cars, first time you have airplanes, first time you have movies, first time you have all of those amazing new technologies that also ended up creating a bubble that contributed to the bust. So, we have yes, this is an amazing new technology and you know, we're almost eliminating or certainly greatly reducing what the humans' advantage is over machines. You know in history through most of mankind really through the agricultural revolution until we started, you know, sort of in the mid-600s we started to change as a result of really the printing press and so on then man we began an industrial revolution because man's thinking began to play and before that man was like oxen, you know, they just worked and there was muscles and then you get higher and higher and higher levels of intelligence and but okay so now we're in this AI world okay and then okay what is that going to mean but anyway the new technologies have always been wealth producers so they create uneven distributions of wealth naturally they create and they are used to make wonderful advances and they're also used for wars for conflict in various ways. So while this is a new technology then there's a lot to be learned about how new technologies and they're all related, you know, like I was saying when you look at the, let's say the bubbles, the bubbles come around, you know, and the bubbles have effects when they burst the bubbles come around when there's a new technology because there's an inclination of the new technology. Everybody sees it's going to be great and the world's going to change and you want to bet on it, but they don't necessarily view what price they're paying for it. And then sometimes they, you know, they borrow money to bet on it and there's a big difference between money and wealth. You know, you can't spend wealth. So when your wealth goes up and you might have to sell some wealth in order to get money and so bubbles occur when that happens usually because you have to pay debt service or you have to pay taxes. So anyway that's the fourth influence I would say technology each time is unique of course but the patterns aren't unique. And then number five is acts of nature. Throughout history, droughts, floods, and pandemics have killed more people than wars and toppled more orders than the other factors I've mentioned.

It's if I play the role of the cardiologist and I sort of view myself kind of like a doctor who measures things. I'm not ideological. I'm just measuring things. It is like sitting down with somebody who has an enormous amount of plaque built up and when I look at the projections it's going to increase at a fast pace to put the US position but this is not just a US problem. Many countries have this problem. The US position is it takes in about $5 trillion a year. It spends $7 trillion a year. So it's spending 40% more than it takes in. It has a debt which is six times the amount of money that it takes in and it is spending a trillion dollars a year. So half the budget deficit on interest payments. And it has to roll over $9 trillion a year of debt in a world. Okay. So the world and that's now and it's going to compound. So in my opinion there's not a doubt that we're headed for that. I mean maybe somebody might say maybe AI will raise productivity and incomes and so I suppose that that's not an impossibility. I should acknowledge that. But it is a very risky situation. So, it's like sitting down with the patient and saying you know you're in this condition and you know and we know how it's going to worsen and often I hear it's like the patient who says but wait a second I've heard this notion that if I behave this way I'm going to have a heart attack and hasn't happened and therefore I don't think it's going to happen and I'm going to go on my ways but Well, it's just a matter of it's simple numbers and mechanics, you know, where's the money going to come from? So, and it happens with the other stuff going on like the politics. So, you know there are big wealth gaps. I go to Washington and I speak to by the way many finance ministers, you know, including your own, and when we look at this, you know, it's a basic situation the politics there are things that could be done to stabilize it that would have to be, you know, basically if you'd have let's say raise taxes by four or 5%. You'd have and cut spending by four or 5%. And that would naturally bring down interest rates which would also help to reduce the debt. You can bring it down, you know, to maybe to 3% of GDP or something like that to try to stabilize it. I don't know if that's good enough, but anyway, that would be that. But the political answer is the one I always get which is, you know, politics is such that I have to make two pledges otherwise they'll throw me out of office and they, you know, basically the pledge is I will not raise your taxes and I will not cut your benefits. So politics, I'm afraid of what the next downturn is going to look like when I mean downturns always happen and you have an the next downturn and then, you know, that's produces economic pain for everybody, you know, and when they have economic pain, it's, you know, it's not like they're lovely with each other, you know, it can cause worse situations.

Well, I think that the debt issue, yeah, let me say two things. I think the debt issue as we extrapolate it is not an exogenous shock. It is, you know,

It's like a disease that we are in. It's like stage four of this disease, and we can see that can happen. We can see that the wealth gaps are so large, and the fighting is so great that you can see disruptive things happening from that. If you studied this, by the way, this has all happened in history, and so it's educational to see this pattern over and over again. So what happened when we're at this stage of the disease? What you see is, classically, in that environment you see capital controls, you know, can't move money out of one place to another. You see big increases in taxation. You see financial repression. In other words, basically keep the money within the country or that location. Don't have it go out. Outlaw inflation hedge assets like gold. I mean, they outlawed gold. And why did they outlaw gold? Because they didn't want the money to be stored there. And then they have what we call financial repression, which means push the interest rates down so they're low in relationship to the inflation rate. The inflation rate allows a higher rate of taxation. So you bring in more tax revenue and you inflate the debt away at the same time as it produces, you know, negative real returns and with a high tax rate, and that's how it's dealt with. So I think it's an unhealthy situation. It's not that it needs an exogenous factor. Now, in a world that has geopolitical risks, the exogenous conflict exists more so, more likely. You know, we're now in this new world order. How does this new world order work? It means that since there's greater risk of conflict, then everyone wants self-sufficiency. Countries want self-sufficiency and use economic warfare much more than before. You don't want to be cut off. So you want to then domestically produce. So it's anti-globalization. And when it's anti-globalization, it's anti-efficiency. So you're happy to accept a lower level of efficiency for self-sufficiency. And then you use it as economic warfare, which we're seeing. So the geopolitical conflicts have also bearings on what we might call shocks, just like we're seeing shocks now. Well, you know the shocks, so I don't have to go down the list of them.

I think, you know, just like Plato described it in the Republic, in a sense, you need the strong leader who can bring people together and pretty much dictate what needs to be done, even though it's difficult and unpopular. I mean, that's the classic. And so when you look at that, the problem is people have different views of what that leader looks like. But they want leaders like that. You know, the strong leader who will get them to do it the damn right way to do it. But you need one who will bring the country together and fight against the extremists and have a path that they get people to follow.