All Weather Portfolio: Navigating Market Uncertainty with Resilient Portfolio

Introduction: All Weather Portfolio

There are many good investment portfolios. After thinking about which one to introduce first, I decided to start with one of the most reliable, the All Weather Portfolio. Many of you might already know about it, but I haven’t seen many people stick with the All Weather Portfolio consistently. While the portfolio components complement each other, aiming for stable returns over the long-term, they sometimes fall together over shorter periods (for example, less than 3 to 5 years). However, since the All Weather Portfolio was designed with mid-to-long-term economic cycles in mind, it tends to work well for investments over 10 years and can better fulfill its purpose over 30 years or more. Let’s dive into the All Weather Portfolio.

ETF Composition

Source: www.lazyportfolioetf.com

The portfolio structure is very simple: Stocks 30%, Bonds 55% (40% long-term U.S. Treasury bond + 15% medium-term U.S. Treasury bond), and Commodities 15% (7.5% gold, 7.5% other commodities). For stocks, both VTI (Vanguard Total Market ETF) and the S&P 500 ETF (VOO or SPY, for example) are good options.

Historical Performance

Source: www.lazyportfolioetf.com

(Rebalancing on January 1st each year. Dividends are reinvested. Fees and capital gains taxes are assumed to be zero. Maximum period: January 1, 1871 – August 31, 2024)

As of the end of August 2024, the return for this year was 7.5%, and over the past 12 months, it was 12.1%, which is respectable. However, expanding the period to the last 10 years, the annual return drops sharply to 4.9%, and over the last 30 years, it rises again to 7.7%. The table also shows inflation-adjusted returns, which have generally been solid aside from the recent 5-year period with -0.1%.

Maximum Drawdowns

Source: www.lazyportfolioetf.com

The chart above shows the All Weather Portfolio’s maximum drawdowns over the past 55 years, starting in 1970. The worst year was 2022, with a loss of -20.6%. This was due to both stocks and bonds falling together as the Federal Reserve aggressively raised interest rates in response to surging inflation. Excluding 2022, the portfolio generally weathered downturns well. During the height of the global financial crisis in 2009, the worst drawdown was -11.6%, and during the dot-com bubble burst in 2001, the worst was -4.6%, which is impressive. In inflation-driven downturns like 1970 and 1981, losses were in the -12% to -13% range. However, rising gold and commodity prices helped reduce overall declines.

Backgrounds

Creator: Ray Dalio, founder and chairman of Bridgewater Associates, the world’s largest hedge fund. His books "Principles: Life & Work" and "The Changing World Order" are bestsellers, so many of you may already be familiar with him.

Logic: The strategy is designed to pursue stable, long-term returns in a constantly changing economic environment. It divides the economic landscape into four scenarios based on the combination of rising/falling economic growth and rising/falling inflation, aiming for balanced performance across all situations. In simple terms, when economic growth is high, stocks and commodities rise; when growth is low, bonds outperform stocks; when inflation rises, commodities go up; and when inflation falls, stocks and bonds benefit. This common-sense logic is embedded in the portfolio structure. The table below summarizes this. I was initially going to use the one from the Bridgewater website, but the graphic was of poor quality, so I recreated it.

Source: www.bridgewater.com/research-and-insights/the-all-weather-story

My Thoughts

First, investors of the All Weather Portfolio need to accept opportunity costs and moderate returns with patience. First, the returns are moderate. The 30-year average annual return of 7.7% is good, but the recent 10-year average of 4.9% seems a bit low. Over the past 5 years, it’s dropped further to 4.0%. Still, it was much better than a fixed deposit rate at a bank (averaged over the same time frame), meaning it effectively hedged against inflation risk.

Second, let me explain what I meant by opportunity costs. There are positive and negative opportunity costs for the All Weather. Once set up, the All Weather Portfolio requires minimal management. You can rebalance it according to your preference, usually quarterly or annually. It spares you the time-consuming process of analyzing news, interpreting economic data, reading corporate forecasts, or listening to stock experts on YouTube. In this way, it gives investors their time back - positive opportunity cost. But there is also FOMO (Fear of Missing Out). During bull markets, aggressive portfolios can easily achieve 20-30% annual returns. Even in such times, the All Weather Portfolio struggles to exceed mid-10% returns. You pay the price of missing out on higher returns during boom periods - negative opportunity cost. Some people suggest that you should invest aggressively when the market is doing well and only switch to the All Weather Portfolio when the market is not performing well. If you could predict market downturns accurately, you should opt for a more defensive portfolio or even invest in an inverse ETF. However, since accurately predicting market downturns is incredibly difficult, investors may choose the All Weather Portfolio, which is designed to manage risks in a balanced way across various scenarios.

Third, patience is required because, as mentioned earlier, you need to overcome FOMO during bull markets, endure mediocre or even negative returns during bear markets, and sometimes tolerate a 5-year average return of just 4.0%. Only by persevering through these periods can you potentially achieve an average return in the mid-6% to mid-7% range over the long term. For those who prefer low volatility, the All Weather Portfolio is a good fit since its relative losses during downturns are smaller. However, overcoming FOMO is harder than it sounds. That’s why patience is key.

Lastly, let me share the chart below to demonstrate why it is called the “All Weather” portfolio. It compares the performance over 50 years, broken down into 10-year periods, between the 60/40 portfolio (60% stocks, 40% bonds), the All Weather Portfolio, and the S&P 500. Out of the 5 periods, the S&P 500 came out on top in three (the 1980s, 1990s, and 2010s). However, for the remaining 2 periods (the 1970s and 2000s), the S&P 500 ranked last. The problem isn’t just coming in last; during those two 10-year periods, it recorded negative returns. Not many investors can tolerate a negative return for 10 years. The 60/40 portfolio also saw losses in the 1970s. In contrast, when looking at the All Weather Portfolio in 10-year increments, it has never posted a loss for the last 50 years. Even during the 1970s and 2000s, the All Weather Portfolio delivered positive returns, making it the top performer among the three. While it ranked 3rd during the other 3 periods, its returns ranged between 5% and 10%, which is decent in my opinion.

Source: https://ofdollarsanddata.com/ray-dalio-all-weather-portfolio

Conclusion

I believe the All Weather Portfolio is suitable for investors who value their time, are not chasing double-digit returns with high volatility, and seek relatively stable returns over a long period. However, the concern remains its relatively low average returns. How about allocating a portion of your portfolio to the All Weather Portfolio and using the rest to seek higher returns, instead of investing 100% in the All Weather Portfolio? The proportion of the All Weather Portfolio in your overall investment will depend on each investor’s preferences. One thing is certain: the macroeconomic environment will continue to change, and investors will tirelessly try to anticipate and respond to these changes. However, events will always occur that are beyond our expectations. 

Most of us didn’t anticipate the Covid-19 pandemic, the war in Ukraine, inflation spiking to 9% after being dormant for decades, or the Federal Reserve suddenly hiking interest rates by 0.75% multiple times in a row. With increasing economic uncertainty and declining cash returns, I believe the All Weather Portfolio’s value could stand out even more.

Thanks for reading. I wish you success in making smart investments!

This blog does not offer investment, financial, or advisory services. The information provided herein is for general informational purposes only and should not be interpreted as advice for making specific investment decisions. All investments involve risk, and past performance is not indicative of future results. It is advisable to consult with a qualified financial advisor to determine strategies or products that are appropriate for your individual circumstances. The owner, writer, or operator of this blog accepts no responsibility for any direct or indirect losses that may arise from the use of or reliance on the content presented. The information provided on this blog is subject to change and may not be current. The content is based on personal opinions, as well as information from news sources and research, and may vary due to shifts in personal opinions, financial market conditions, or other influencing factors. Most data referenced is derived from daily closing prices. Data finding, sorting, graphing, and analysis are performed primarily by myself, and while efforts are made to ensure accuracy, errors may be present. If you identify any inaccuracies, please inform me via comments or email, and I will endeavor to review and correct them as necessary. External content or images will be cited to the best of my ability.