Ray Dalio: Everything Changed In The Last 10 Days

Monday, February 12, 2018
By Paul Martin

by Tyler Durden
Mon, 02/12/2018

It’s becoming difficult to keep track of Ray Dalio’s flipflopping in the past few weeks.

As we reported yesterday, in an interview with the FT, Bridgewater’s co-chief investment officer, Bob Prince, echoed Goldman’s co-head of equity sales, warning that “there had been a lot of complacency built up in markets over a long time, so we don’t think this shakeout will be over in a matter of days” and added that “We’ll probably have a much bigger shakeout coming.”

Surprisingly, Bridgewater’s bearish reversal followed just two weeks after Ray Dalio mocked market skeptics, telling his Davos audience anyone holding cash will “feel pretty stupid”.

“We are in this Goldilocks period right now. Inflation isn’t a problem. Growth is good, everything is pretty good with a big jolt of stimulation coming from changes in tax laws. If you’re holding cash, you’re going to feel pretty stupid.”

Fast forward to this weekend, when B-water’s co-CIO Prince was no longer mocking cash holders, and instead predicted that “the broader economic backdrop was setting the stage for more turbulence later this year.”

To this we responded that “we are curious just which principle of Ray Dalio it was to recommend one thing and just a few days later to turn around and pitch the exact opposite.”

To our surprise, Dalio actually decided to address precisely this, and in a LinkedIn post this morning, he explained not only “what’s happening within the context of the classic short-term debt/business cycle”, and where we are in it, but why Dalio changed his mind so abruptly in the span of 2 weeks, or as he put it “about 10 days ago”, which changed his entire outlook on the US economy.

Dalio begins, as he usually does, by providing the following idealized snapshot of the business cycle:

In the “late-cycle” phase of the short-term debt/business cycle, when a) an economy’s demand is increasing at a rate that is faster than the capacity for it to produce is increasing and b) the capacity to produce is near its limits, prices of those items that are constrained (like workers and constrained capital goods) go up. At that time, profits also rise for those who own the capacities to produce those items that are in short supply. Then the acceleration of demand into capacity constraints and rise in prices and profits causes interest rates to rise and central banks to tighten monetary policy, which causes stock and other asset prices to fall because all assets are priced as the present value of their future cash flows and interest rates are the discount rate used to calculate present values. That is why it is not unusual to see strong economies accompanied by falling stock and other asset prices, which is curious to people who wonder why stocks go down when the economy is strong and don’t understand how this dynamic works. If the prices for stocks and other assets that do well when growth is strong continue to decline (which is typical), that and the credit market tightening leads demand to fall until demand is significantly less than the capacity to produce, which leads interest rates to fall and central banks to ease as their concerns about economic weakness supersede their concerns about inflation; that causes stock and other asset prices to rise. Such is the nature of the “short-term market and business cycle.” That is why it is classically best to buy stocks when the economy is very weak, there is a lot of excess capacity in the economy, and interest rates are falling (and to sell stocks when the reverse is the case).

The Rest…HERE

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