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Has Your Portfolio Beaten the World’s Most Famous Hedge Fund?
April 23, 2020

Has Your Portfolio Beaten the World’s Most Famous Hedge Fund?

Written By: Andrew Hallam

In July 2011, I read a story in The New Yorker , “ Mastering the Machine, how Ray Dalio built the world’s richest and strangest hedge fund.” I have to admit, I don’t really follow famous hedge funds. They’re designed for the wealthy and purposefully draped in mystique. Every once in a while, a newspaper or magazine teases with a headline:

“See What Hedge Fund Managers Are Buying Right Now!”

It’s as if money managers for the uber-rich are covered in fairy dust. If we could just peak at their playbooks, we could boost our profits too.

But like a childhood myth (think of the Tooth Fairy and Santa) the truth comes out if you poke around a bit. In this case, if you invest in a portfolio of low-cost index funds, you’ve already trounced the returns of most hedge funds.

The HFRX hedge fund index tracks the sector’s performance every year. Since 2003, hedge funds have lost to inflation. In other words, the price of a box of Corn Flakes increased faster than the average hedge fund. Note their after-inflation performance on the orange line below.

Hedge Funds Lose To Inflation
January 2003-January 2020

Hedge Funds Lose To Inflation - January 2003-January 2020

But once in a while, we hear whispers of a hedge fund star. In 2011, that article in The New Yorker introduced me to Ray Dalio and his Bridgewater Pure Alpha hedge fund. It had a great track record. It gained a whopping 45 percent in 2010 and 24.8 percent in 2011. This boosted his fund’s performance to a salivating compound annual return of about 13.5 percent since it was founded in 1991.

I imagine plenty of people read that story in The New Yorker . If they were accredited investors, they might have started to invest in Bridgewater’s Pure Alpha hedge fund that year.

Ray Dalio isn’t shy about his abilities. He talks about his “unique success” on LinkedIn . In a 2017 TED talk he said his firm has “made more money for our clients than any other hedge fund in existence.” He’s brilliant and likeable. But it’s tough to beat the market. And a past winning record doesn’t count for much. In 2008, Protégé Partners bet Warren Buffett that a selected group of hedge funds (presumably with a market-beating record) would beat the S&P 500 in a 10-year test. Warren Buffett bet on the index, and he won that bet.

When I first read about Ray Dalio, in 2011, I was writing an investment book. I had just finished researching “reversion to the mean.” Reversion to the mean is much like gravity. It eventually has its way. Actively managed funds that win over one time period often disappoint the next, reverting back to the mean or worse. I referenced several active managers who had great, long term track records…until they didn’t. At the time, I wondered about Dalio’s Bridgewater Pure Alpha fund. Based on historical statistics, it faced long odds of beating the market going forward.

Fast-forward eight years. If somebody invested in Dalio’s Bridgewater Pure Alpha fund, on January 1, 2012, it would have grown by a compound annual return of about 2.86 percent per year, after fees to March 6, 2020.

That’s bad…really bad. It barely beat inflation. Over that same duration, Vanguard’s U.S. stock market index (VTSMX) averaged a compound annual return of 12.96 percent. The global stock market ETF (VT) averaged a compound annual return of 9.31 percent per year. Even Vanguard’s bond market index (VBMFX) beat the world’s most famous hedge fund over these 8+ years. It averaged a compound annual return of 3.15 percent.

Most hedge funds charge fees of 2 percent per year plus 20 percent of any profits earned. That means, if a hedge fund earned 5 percent before fees, it would earn 2.4 percent after fees (5% -2% x.20 = 2.4%).

You might be tempted to blame Bridgewater’s poor performance on high investment fees. But even if the fund didn’t charge a penny from January 1, 2012 to March 6, 2020, a globally diversified portfolio of low-cost index funds would have still given it a whooping.

A portfolio with 40 percent in a U.S. stock index (VTSMX), 20 percent in an international stock index (VGTSX) and 40 percent in a bond market index (VBMFX) averaged a compound annual return of about 7.79 percent from January 2012 to March 6, 2020. As shown below, that leaves the world’s most famous hedge fund gasping in its wake.

January 1, 2012 – March 6, 2020

How has the World's Most Famous Hedge Fund Stacked up to a portfolio of index funds

January 1, 2012 – March 6, 2020

Sources: portfoliovisualizer and Morningstar (for Vanguard’s index funds VTSMX, VGTSX and VBMFX)

Year Bridgewater Pure Alpha Hedge Fund Globally Diversified Portfolio Of Index Funds (40% U.S. Stocks, 20% International Stocks, 40% U.S. Bonds) U.S. Stock Index U.S. Bond Index
2012 +0.8% +11.75% +16.25% +4.05%
2013 +5.25% +15.44% +33.35% -2.26%
2014 +3.6% +6.43% +12.43% +5.76%
2015 +4.7% +0.64% +0.29% +0.3%
2016 +2% +6.94% +12.53% +2.5%
2017 +1.2% +15.28% +0.29% +3.46%
2018 +14.6% -5.04% -5.26% -0.13%
2019 +0.5% +19.99% +30.65% +8.61%
3/6/2020 -10.6% -3.72% -8.25% +3.86%
Compound Annual Average +2.86% +7.79% +12.96% +3.15%
$10,000 would have grown to… $12,230 $18,452 $27,044 $12,886

Fortune, Forbes, Yahoo! Finance, Business Insider, CNBC and Bloomberg for Bridgewater’s Pure Alpha fund results

It’s natural to believe we can find someone who can earn us big returns and navigate tough terrain. We might seek famous guides like Ray Dalio, or less famous names like a day-trading wiz who claims to make a fortune during good times and bad. Such investors might be smart…they might even be brilliant. They might have great track records. But history isn’t kind to those who chase past winners. Instead, build a globally diversified portfolio of low-cost index funds. Don’t be tempted by the next hot hand. You’ll make much more money if you remember the words, “reversion to the mean” instead.

Bridgewater Pure Alpha Annual Returns and Sources

Year Bridgewater Pure Alpha Performance Sources
2012 +0.8% https://fortune.com/2013/01/23/why-the-worlds-biggest-hedge-fund-missed-big-in-2012/
2013 +5.25% https://dealbook.nytimes.com/2014/01/08/dalios-bridgewater-associates-posts-lackluster-returns/?mtrref=www.google.com&gwh=F8451AF22B9DFD8D972DD9FF8B838F28&gwt=pay&assetType=REGIWALL
2014 +3.6% https://www.forbes.com/sites/nathanvardi/2015/01/22/billionaire-hedge-fund-manager-ray-dalios-all-weather-fund-returned-8-6-in-2014/#74f039bb46a3
2015 +4.7% https://www.forbes.com/sites/nathanvardi/2016/01/08/hedge-fund-king-ray-dalios-all-weather-fund-down-7-in-2015/#429de2651ef3
2016 +2% https://finance.yahoo.com/news/bridgewater-associates-returns-aum-holdings-174743874.html
2017 +1.2% https://www.cnbc.com/2018/01/26/ray-dalio-made-50-billion-for-his-clients-topping-list-of-biggest-hedge-fund-money-makers-ever.html
2018 +14.6% https://www.bloomberg.com/news/articles/2019-01-06/bridgewater-s-pure-alpha-fund-is-said-to-return-14-6-last-year
2019 +0.5% https://markets.businessinsider.com/news/stocks/ray-dalio-pure-alpha-bridgewater-fund-flat-gains-returns-2019-2020-1-1028800764
3/6/2020 -10.6% https://www.cnbc.com/2020/03/13/bridgewater-hedge-funds-post-mixed-results-amid-market-turmoil.html

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This article contains the opinions of the author but not necessarily the opinions of AssetBuilder Inc. The opinion of the author is subject to change without notice. All materials presented are compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. This article is distributed for educational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.

Performance data shown represents past performance. Past performance is no guarantee of future results and current performance may be higher or lower than the performance shown.

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