The Quest to find 15 uncorrelated asset classes

Discussion in 'Risk Management' started by InTheMaking, Jan 26, 2018.

  1. For those of you who may not be aware, Ray Dalio, founder of Bridgewater Associates (reputed to be one of the largest and longest lasting Hedge fund in the world) wrote a book in 2011, called Principles. In this he has a little blurb on diversifying which most attribute to as the best form of risk management.

    197d) Don’t bet too much on anything. Make 15 or more good, uncorrelated bets.

    Unfortunately for the rest of us, Mr. Dalio true to the title of book, keeps the entire book very abstract that forces the user to ponder those 15 uncorrelated income streams. Experts have theorized that at 15 assets would reduce risk by 80%.

    Over last few years of trading, I've tried to diversify my trading strategies (and also business ventures) to achieve uncorrelated income streams. As a trader, some of the areas that I see slight levels of uncorrelations from Stocks/Equities

    - Stocks & Equities
    - Hedging with Options
    - Emerging Markets Equties
    - Volatility Trading and Vol Arb
    - Commodities Trading (Crude / Metals)
    - Hedging of Commodities
    - Bonds and Fixed Income
    - Real-Estate

    To a certain extend most of these correlate to the economy (look at the market, today). I'm curious what others see as Uncorrelated Asset classes and income streams that are time tested through good times and bad times.

    PS: This topic was briefly discussed in a previous post, 5 years ago. However, very little specifics

    Times have changed and everything seems to be correlated.
    d08 likes this.
  2. drm7


    A good start is Permanent Portfolio, which was popularized by Harry Browne (who also later ran for President as a Libertarian). 25% Stocks, 25% cash (or very short-term bonds), 25% long term bonds, and 25% gold, rebalanced at least annually. The absolute returns over a long period of time are less than an all-stock or 60/40 stock/bond portfolio, but the risk-adjusted returns are very strong. Each of those four asset classes has very low correlation with the other.
  3. One puzzling aspect about the permanent portfolio is it does not have real estate in the portfolio. I wonder why real estate is excluded. It is a favourite asset class among the rich.
    murray t turtle likes this.
  4. fan27


    This is a good topic. How I intend to approach the problem is this.

    1. Write software to automate as much as possible the process of finding profitable stand alone strategies.
    2. Next, write software which can combine those strategies into a grouping of strategies based on risk preferences.

    For example, perhaps I desire a strategy portfolio with a max draw down of 15%. That likely can only be achieved via strategies that have uncorrelated draw downs. It could consist of instruments that might be viewed as correlated when viewed on the same time frame but there is nothing to say I can't have numerous strategies on different time frames for the same instruments. The previous iteration of my software did something similar where it could combine strategies but it was all manual it terms of configuring the combinations. My current iteration will be much more automated.
  5. I've read Permanent Portfolio and feel skeptical about their diversification strategy. Personally, I feel this is highly outdated methodology on risk management. The only redeeming aspect I see if diversification through "rebalancing".

    Today with the advent of multiple asset classes for the retail investor especially in real-estate, and crowd-funding real-estate P2P loans, mortgage notes etc, offers tremendous levels of diversification that are de-correlate from recessions.

    Heck! Even bitcoin is an asset class. It can be used to hedge against an hacking incident that could tank the valuation of your portfolio companies. Case in point, I trade MDLZ actively. They were hacked in May'17. Company lost 5% of their market cap so hedged with 1.75 BTC at 2000. Hindsight, should've bought 10 BTC's instead.
  6. How about asset classes such as art (paintings, sculptures), antique/vintage cars, wine? I don't know how these correlate to the classes you already mentioned. And market liquidity might be an issue...
  7. syniczfx


    Guess in this globalized era, every asset is correlated one way or another...
    Arnie likes this.
  8. maybe it would be different countries indexes?
  9. Daal


    I believe Dalio is talking more in terms of an active portfolio not a passive one. He's got a beta fund (All-Weather) and a alpha fund (Pure Alpha). The 15 uncorrelated bets can be stuff like long Argentina bonds, short Australian stocks, long Greece REITs, etc
    #10     Jan 27, 2018
    777 and comagnum like this.