Billionaire investor Ray Dalio recently admitted to learning invaluable lessons after a bad investment left him so short of funds that he had to borrow $4,000 from his father.
Although Dalio suffered that big loss over 40 years ago, he said he still relies on that experience when he screens new investments. During a conversation with Carlyle Group (NYSE:CG) co-founder Dave Rubenstein on "The 92nd Street Y, New York" podcast, Dalio said the lessons he learned from that mistake helped him turn Bridgewater Associates into one of the world's largest hedge funds.
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It begins with a young Dalio running Bridgewater in the early 1980s. Dalio said he estimated that the U.S. had lent more money to foreign nations than they could ever repay, a fact he thought would lead to a severe debt crisis. He invested accordingly and expected the big payoff would come after Mexico defaulted on its debt in 1982.
"I couldn't have been more wrong," he told Rubenstein." Dalio said the magnitude of his error became clear when the Federal Reserve responded by easing lending standards. That caused the market to surge, which is the opposite of what Dalio expected. The losses were severe, and things got so bad for Dalio that he had to borrow $4,000 from his father to make ends meet. "That was painful," he said.
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Dalio had made a massive bet and came up snake eyes. It's not uncommon for people to throw their hands up and quit in frustration after such a stinging defeat, but Dalio grew from the experience instead of letting it break him. "That changed my approach to everything," he said before expanding on the two critical lessons he learned.
The first of those lessons was to be humble enough to doubt himself. Dalio said he changed his decision-making process by writing down the factors he would take into account before making investment decisions. He said this tactic has led to thinking much more deeply about the motivations and potential outcomes of an investment decision. Dalio says this decision-making process is one of his guiding principles at Bridgewater Associates. The results speak for themselves.
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The second important lesson Dalio learned is to appreciate the potential benefits of portfolio diversification. Dalio told Rubenstein that diversifying reduces risk up to 80% while still generating impressive returns at Bridgewater. He said his main goal is to find "15 good uncorrelated return streams" that offer comparable returns, and that this method drastically tilts the risk vs. return equation in his favor.
Dalio credits this method with helping Bridgewater achieve average returns of nearly 11.8% for the past 30 years. Ironically, one of Dalio's biggest failures as a young investor set him up for major long-term success. "Nobody does everything perfectly, not even Warren Buffett," he told Rubenstein. That may be true, but Dalio's track record shows he's been right a lot more than he's been wrong.
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