Author: Ray Dalio

Translation: Deep Tide TechFlow

Introduction: Bridgewater founder Ray Dalio posted an investment note on X, calculating the current market dominated by a few AI giants. His conclusion is firm: high risk is a fact, while low return is an opinion—actual returns in the U.S. stock market over the next 5 to 10 years may range from -5% to -10%. He does not advise against buying AI; he advises against betting all your chips on AI. This is the "holy grail of investing" he has summarized over more than 50 years, now shared publicly with everyone.

Investment Principles: How to Play This Hand

This note discusses how to play the investment game in the current situation.

You can think of it as bridge, poker, backgammon, or chess. When it’s your turn, there’s a computer next to you helping to assess the situation and provide recommendations. For me, investing feels this way. Regardless of whether you have that computer handy, I believe you should ask yourself one question: with the cards laid out like this, what should I do next (in other words, what are the market characteristics and what forces are influencing it).

I’ve been playing this game for a long time. At this stage, my goal is to pass down my strategies, and to take it a step further, create a platform where various people can use it to explore investing—learning, reflecting on what they would have done originally, and doing it well. I believe there is right and wrong in handling this hand of cards. Therefore, when you encounter a specific situation, you should ask yourself: "How should I bet in this situation?" and be able to provide a reliable answer.

Next, I want to talk about what I believe the market looks like right now and what I think should be done (which I am also doing).

How to Play This Round

What are the most critical conditions today, and how should you bet on them?

In my view—and likely in everyone's view—we are currently in a market where a few companies dominate a sector characterized by astonishing new technologies (mostly AI) that lead the entire market. These companies represent a high proportion of market capitalization and have a significant impact on the market and economy. Every time it’s like this, a new technology sector gathers a lot of excitement, uncertainty, and volatility, which then translates to global stock markets. Thus, the fluctuations and uncertainties in this sector are critical.

Besides that, there are several other equally important variables, which I refer to as the "five major forces": first, what is happening with debt and currency; second, what political and social issues are happening (these can significantly impact taxes and other politically driven market factors); third, the impact of geopolitics on the market (such as wars); fourth, what is happening in nature; and fifth, what new technologies are emerging. I input these conditions into my investment system, which calculates how to bet based on these conditions, while I also think about what to bet on.

When considering how to bet, the most crucial question to ask and clearly answer is: Do you want a) a heavier bet on new technologies than what the market index (e.g., the S&P 500) implies, overweighting this sector or the few companies you think are the best; b) to maintain a weight similar to the index; or c) to diversify away from this concentration?

Almost everyone wants to buy the best assets and is striving hard to do so, and this new technology seems to be changing almost everything. However, history tells us that at this stage in the cycle, betting a high proportion of capital on a few leading companies that produce this technology has led the vast majority to fail. There is logic behind this; it has played out this way every time in the past. AI as a new technology is indeed unique, but throughout history, there have been many other unique technologies that can be compared. You should look into them. If you choose to ignore them, you need to present a good reason explaining why this time is different.

The Risk Is Indeed High

All stories about great new technologies in the past have played out in the same way and for the same reasons. High risk combined with enormous uncertainty is an inherent attribute of these new technology companies. Looking back at their performance in similar situations, you will find that even those revolutionary companies that eventually won out long-term (such as Microsoft and Apple) were also beaten down in similar moments along the way. Moreover, at the moment when new technology companies just emerge (not in hindsight), it's fundamentally difficult to judge who will succeed and who will fail; IBM is an example. When you look at these cases, you will understand that the future of new technology companies is highly uncertain; that is their nature.

For instance, they either invest too much or too little. The reason is: under-investing guarantees a loss, but they cannot accurately predict the future, leaving them unsure whether they have over-invested. Both over-investing and under-investing come at a cost.

They also cannot accurately anticipate all changes that will affect them, including those that are external—tightening monetary policy, wars, and drastic tax changes. Thus, they will experience severe ups and downs, first exciting investors, then scaring off the timid and flushing them out of the market, which amplifies market volatility. Digging deeper: these new technologies and new companies that disrupted their predecessors will eventually be disrupted by even newer technologies and newer companies, often in ways we cannot currently conceive. We have to consider whether the same thing might happen to these companies today. The impact of quantum computing is one of those "known unknowns." What about those that haven't been imagined yet?

What about the risks posed by competitors? For example, China is producing and distributing AI technology, and its policymakers have a completely different perspective on the economy and AI. We are in a new technology war, where leaders of nations believe they must win. From China's perspective, AI should be provided for free or at low cost to everyone, as it offers immense productivity dividends and can raise overall living standards. They view profits as less important compared to the overall benefits derived from many people using these new technologies. I suspect they will enter the international market competition just like they have with automobiles, solar panels, and batteries.

The current situation resembles many historical moments that can teach us lessons. I cannot help but recall the period at the end of the Dutch Empire and the beginning of the British Empire, when Britain surpassed the Netherlands in shipbuilding and other vital industries. There are also the geopolitical conflicts surrounding Taiwan, which at least prompt us to consider the possibility that China might use "preventing chip exports from Taiwan" as a tool in geopolitical maneuvering. AI stocks carry other risks too, such as the risk of rising wealth taxes and other taxes—which could force those who have heavily invested their wealth in these stocks to sell; and the rising anti-AI sentiment might put restrictions on company expansion.

I could list a host of concerns and an equally long list of promising opportunities I see for investing in AI. I am not saying these risks will lead to specific outcomes, nor that you shouldn’t buy AI companies. I am simply stating that there are significant concentrated risks in the market, which is indisputable, and you should understand how to navigate this situation. Based on my study of all similar cases and driven by logic, I am confident: the risks are high, and the best strategy for dealing with this situation is:

Diversify Well

You probably know that my mantra is diversification; my "holy grail of investing" is to aim to hold 15 uncorrelated, balanced-risk positions. In other words:

"A well-diversified portfolio composed of good bets will outperform a concentrated bet (it has a higher return-to-risk ratio and can engineer better returns for the same risk). The more risk is concentrated in a particular segment of the market, the more you should diversify, especially when the market is driven by a revolutionary new technology that inherently brings about great uncertainty."

This is not an opinion; it's a mathematical certainty. For instance, assume a single bet has a return-to-risk ratio of 0.3 (for example, a 6% return with an 18% standard deviation, which is commonly considered the level for stocks). Now compare holding 5, 10, or 15 uncorrelated bets: I can achieve the same 6% return, but the risks measured with standard deviation drop to 8%, 6%, and 5% respectively. In other words, 15 good uncorrelated investments can increase my return-to-risk ratio by 4.3 times (from 0.3 to 1.29). If you wish, you could also leverage it to achieve much higher returns at the same risk level. This is a fact.

The reason I am confident lies in backtesting, the actual returns I have produced over more than 50 years of investing, and the logic that is likely to hold true: doing a good job diversifying the bets and then adjusting to the volatility level you desire will yield returns far superior to the concentrated bets that most investors prefer. To be more specific, with proper diversification, you can achieve a better risk-reward ratio than with any concentrated bet; then, by adjusting it to your desired risk level, you can obtain higher returns at that risk than with any other approach.

Because I have made this method public, it has now become my "less secret" path to success. However, I seldom encounter anyone thinking about investment strategies in this way—meaning, very few consider portfolio construction, or think about how a well-structured, sufficiently diversified bet portfolio would compare to concentrated positions in a few stocks of a great transformative industry. Most people only think about whether these stocks or this sector will rise, and how to bet. Those who consider portfolio construction and those who do not show a vast performance gap. I will look for opportunities to discuss how to do this well in more detail in the future.

Based on all of the above, I believe that when pondering how to play the current hand, you should ask yourself: how large should my concentrated position be, and then diversify.

Returns Seem Very Low

High risk is an indisputable fact. Next, I want to present an opinion, which may be wrong: expected returns are very low. This judgment comes from my analysis of valuations and my bubble index readings—actual returns of stocks over the next 5 to 10 years appear to be around -5% to -10%, though the uncertainties of these numbers are quite large. In my view, these stocks are long-duration assets with high risk, as it is difficult to reliably see the distant future, and they appear both expensive and held in shaky hands.

A Question from My Research Team

In a recent meeting, someone on my team asked me: What makes you think that the current market configuration is wrong? How do you know that today's market lacks diversification and doesn’t have its good reasons—such as some investors believing that AI stocks have very high expected returns, or that when a sector occupies such a high market-cap proportion, this concentration is quite normal in an index, or that when everyone is extremely enthusiastic about a sector, many investors will buy these stocks without smartly and reliably calculating future profits and how to price these profits?

My Answer

Prices can rise for various reasons, not all positive. Some investors look at prices and push them upward because they find the price attractive relative to fundamentals; others hold these stocks because they believe it’s a great new technology, and they see the price increase as confirmation of "this is a good stock"; still, some investors hold index exposure, passively weighing heavily on these stocks. In my view, you can dwell on these issues and try to figure out what you want to do; or you can acknowledge that you don’t need to dwell on it because you simply lack sufficient information to confidently bet. You can definitely say: "I don’t understand enough; I won’t make this bet," and then really not make it.

What traps people is the belief that "I must form an opinion, and my opinion is worth something," but the reality is more likely that you cannot form a sufficiently reliable opinion worth betting on. (Note: To clarify, I'm not suggesting against betting—after all, you can't avoid betting because you have to put money into some kind of investment or keep it in cash, and most people think cash is the least risky, while it actually tends to be the worst long-term investment. What I suggest is that even if you lack tactical judgment on which market is good or bad, you should know how to diversify your bets. The practice is: when you have no tactical judgments you are confident in, hold a balanced, strategically positioned asset allocation portfolio. But that’s a topic for another time.)

Thus, I believe that knowing what you don’t know and thereby deciding when not to bet is just as important as knowing what you know and therefore choosing to bet.

To put it more simply, I adhere to this principle: since it is usually difficult to have enough information to justify a concentrated bet, the best approach is to create a diversified portfolio composed of your most confident, uncorrelated bets and then engineer that portfolio to the desired risk level. This is my "holy grail of investing."

At this moment, facing the current hand, I don’t believe anyone can know clearly enough what will happen next in this technology-driven market to make a large, concentrated bet. In my view, avoiding concentration and maintaining diversification is the best approach to dealing with this "not knowing." I am aware this contradicts what you read in textbooks—the textbooks essentially say the market is efficient, so "just trust the market."

To summarize: we now have an unusually concentrated market revolving around a revolutionary new technology, which should precisely remind us not to confuse the excitement over new technology with the attractiveness of stocks tied to new technologies, discarding caution to hold a bunch of high-risk, highly correlated concentrated bets—especially when we could smartly diversify and achieve similarly attractive returns at significantly lower risks.

Appendix: I will not share my positions or tactical judgments with you because I do not want to be your investment advisor. However, I will soon share some key perspectives behind these judgments, including my bubble index readings and the logic behind them.

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