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Bridgewater's Ray Dalio recently had an interview with CNBC's Maria Bartiromo in which he discussed how average investors should set up their portfolios. What he advocated for average investors is in essence a portfolio that is very similar to Bridgewater's All Weather portfolio. See the key points here.

The All Weather portfolio has been used by many pension funds and other institutional funds. In a pdf document prepared by Pennsylvania Public School Employees' Retirement System, the portfolio has the following allocations:

(click to enlarge)

Based on the above, we use equal weight for each section and derive the following table:

Growth +Growth -Inflation +Inflation -TotalFund
Equities6.25% 12.50%18.75%VTSMX
EM Debt Spreads6.25% 8.33% 14.58%PEBIX
Commodities6.25% 8.33% 14.58%GLD
Corporate Spreads6.25% 6.25%VWEHX
Nominal Bonds 12.50% 12.50%25.00%VBMFX
TIPS 12.50%8.33% 20.83%VIPSX

Using the above, we constructed a model Bridgewater All Weather Portfolio that uses mostly index funds. Investors can use the following ETFs to substitute for the mutual funds:

Stocks VTSMX (or SPY, VTI) 18.75%
EmergingMktDebt PEBIX (or PCY, EMB) 14.58%
Commodities GLD (or IAU) 14.58%
CorporateSpread VWEHX (or HYG, JNK) 6.25%
NominalBonds VBMFX (or BOND, TLT, LQD, BND, AGG) 25%
InflationProtectedBonds VIPSX (or TIP, LTPZ, STPZ) 20.84%

The back testing started from 7/18/2000.

This portfolio is similar to Harry Browne Permanent Portfolio. In the following, we compare the two portfolios' performance:

Portfolio Performance Comparison (as of 9/18/2012)

Portfolio/Fund Name1 Week
1Yr AR1Yr Sharpe3Yr AR3Yr Sharpe5Yr AR5Yr Sharpe10Yr AR10Yr Sharpe
Bridgewater All Weather Portfolio0.8%9.7%9.4%175.7%11.5%218.3%8.5%124.5%9.5%146.7%
Harry Browne Permanent Portfolio0.5%8.0%7.2%101.4%11.6%173.5%8.6%103.6%9.1%111.8%

* Not annualized

** Year to Date

In the detailed year by year comparison, we can further see that the Bridgewater All Weather Portfolio lost 8.9% in 2008, compared with Harry Browne's 2.1% loss in the same year. The All Weather portfolio has a maximum peak to trough drawdown of 20%, compared with 15.3% for the Permanent Portfolio.

In terms of portfolio construction, one can see that the All Weather portfolio is lighter in stocks and instead uses high yield corporate bonds and emerging market debt in the rising growth quadrant. Similarly, it uses inflation protected bonds, unlike the Permanent Portfolio. This results in lower overall standard deviation (5.6 vs. Harry Browne's 6.2). As a result, the portfolio has a higher Sharpe ratio than Harry Browne's.

In the Pennsylvania Public School Employees' Retirement System's document, it was proposed to use 25% in the All Weather portfolio and 75% in traditional cash/short term investments in place of the pension fund's cash investment to counter the extremely low cash/short term interest rate. Though this is a debatable way of using the All Weather Portfolio, this portfolio does posses the important risk parity properties to properly hedge each of the four scenarios outlined in the above figure.

In conclusion, average investors can use ETFs or index funds to construct a portfolio that has similar characteristics to the Bridgewater All Weather portfolio. Such a portfolio adds another variation to the Harry Browne Permanent Portfolio family.

Source: Bridgewater's All Weather Portfolio Vs. Harry Browne's Permanent Portfolio