The majority of the mainstream financial media steers investors to news stories that have little bearing on intermediate and long-term returns. The stories often have a short-term focus, centering on the problem of the day and how it will impact the stock market. Many experts, including the legendary investor Ray Dalio, believe the average investor would be better served by ignoring daily news headlines and focusing on metrics with insight into where we are in the economic cycle.
Dalio’s Start and Accomplishments
Born in Jackson Heights, Queens, Ray Dalio became hooked on investing at the age of 12, when he used $300 he saved from caddying and other jobs to invest in Northeast Airlines because of what he overheard on the golf course. Dalio later went on to graduate from Harvard Business School and trade commodity futures on Wall Street before starting his own investment management firm, Bridgewater Associates, in 1975. Today, Bridgewater is one of the largest hedge funds in the world, with more than $160 billion in assets under management. Dalio himself is personally estimated to be worth approximately $16 billion to $18 billion.
Dalio employs an investment approach called “global macro,” which means large-scale investing based on broad systematic factors. He studies market history, looking for events and causations that were previously thought to be impossible. He uses this historical perspective to anticipate changes in currencies, commodity prices and inflation. He also is a strong believer in understanding the psychological factors that influence markets and company management.
Dalio is perhaps best known for foreseeing the Great Recession of 2008-2009. Back in 2006, Bridgewater Associates figured out that the total debt service in the United States was exceeding income and that as a consequence, economic de-leveraging was inevitable. Then in 2007, Dalio saw the housing boom coming to an end and met with the Secretary of the Treasury to warn him that the big banks were in danger of becoming insolvent. As a result, the fund made significant investments in Treasury bonds, gold and the Japanese yen. Finally, in the spring of 2008, his fund pulled out of Lehman Brothers and Bear Stearns, a mere week before the latter failed.
What Does Dalio See Coming Now?
Recently, Dalio said he thought that the U.S. economy was in the seventh inning, and that now is the time to starting shifting to a more defensive position in the market. Why does he believe this? There are three main economic metrics that tie into this thesis.
The first is the NFIB Small Business Confidence index. Right now, small business confidence is at an all-time high. This suggests that small businesses are hiring, expanding and investing. These are all good things, but the fact that we are at an all-time high leads many to believe that we are also at the peak and the only place to go from here is down.
Two other metrics to consider are the ISM Manufacturing Index and the Conference Board Consumer Confidence Index; they are at 14 -year and 18-year highs, respectively. These metrics suggest that manufacturing and consumer confidence are also near peaks and indicate nearing the top of another economic cycle.
The simple fact that these three measures are at or near all-time highs doesn’t mean that a recession is imminent. It does mean that the economy has a high probability of seeing growth slow before reversing. Essentially, Dalio is suggesting that we are not at the end of the cycle, but we are getting close. Unfortunately for investors, being too early is the same as being wrong – so there are no easy answers or we’d all be billionaires like him.