Investment Principles: What Should You Do Under Current Conditions?
Original author: Ray Dalio, founder of Bridgewater Associates
Peggy, BlockBeats
Editor’s Note: Amid AI giants continuing to drive up U.S. stock indices and increasing market concentration, Ray Dalio revisits a classic question in this latest note: How should investors allocate assets when a revolutionary technology is transforming the world?
Dalio’s key reminder is that technological advancement does not automatically make related stocks equally attractive. Major technological cycles in history have often gone through phases of excitement, overcrowding, volatility, and correction—even long-term winners like Microsoft and Apple experienced significant drawdowns during these cycles. Today’s AI industry faces multiple uncertainties, including overinvestment, intensifying competition, geopolitical risks, tax policies, anti-AI sentiment, and the potential disruption from next-generation technologies.
The key takeaway of the article is not whether AI will change the world, but rather how investors should respond to a “highly concentrated” market structure. Dalio argues that as a small number of tech companies come to dominate an increasingly large share of market indices, investors must be vigilant about whether they are unintentionally holding concentrated exposures that are highly correlated and risky. Rather than continuing to chase a few leading stocks, a more prudent approach is to build a diversified portfolio of high-quality, low-correlation assets and adjust volatility levels according to one’s own risk tolerance.
In his view, knowing what you don’t know is just as important as knowing what you do know. In today’s market environment—driven by AI, overvalued, and concentrated in risk—investors should not directly translate their excitement about new technologies into concentrated allocations toward a few AI stocks. Diversification, Dalio believes, is the “holy grail” of investing through this technological cycle.
The following is the original text:
This note discusses how to participate in investing within the current environment.
Imagine you're playing a game like bridge, poker, backgammon, or chess, and it's your turn to move—while you have a computer beside you that can help evaluate the position and suggest your next move. To me, investing is exactly like that. Whether or not you have a computer to assist you, I believe you should:
Based on the current market conditions, ask yourself what your next move should be. That is, decide how to act based on the market’s existing characteristics and the various forces currently influencing it.
I’ve been participating in this investment game for a long time. At this stage, my goal is to share how I approach the game; even further, I aim to build a platform where anyone can explore the investment game in their own way—learning, backtesting how they would have performed in the past, and truly mastering it. I believe that, given the cards you’ve been dealt, there are right and wrong ways to play them. So, when you encounter a situation like XYZ, you should ask yourself: “Given this scenario, how should I bet?” and be able to provide a thoughtful answer.
Now, I’d like to share with you my perspective on the current market characteristics, what I believe should be done, and what I’m actually doing.
How to respond to the current set of conditions
What are the most important environmental factors right now? How should one bet under these conditions?
In my view, and perhaps in the view of most people, the current market environment is one in which a very small number of companies, driven by major new technologies—primarily AI—dominate market trends. These companies account for a significant portion of the overall market capitalization and are exerting a substantial influence on the market and the economy. All such periods share a common characteristic: intense excitement, uncertainty, and volatility concentrated in the new technology sector, which then radiates throughout global stock markets. Therefore, the volatility and uncertainty surrounding this sector are critically important.
In addition, there are uncertainties related to other major driving forces. I refer to these as the "Five Forces": 1) what is happening with debt and currency; 2) what is happening with political and social issues that could significantly impact taxes and other politically driven market factors; 3) how geopolitical factors, such as war, affect the market; 4) what is happening with natural forces; and 5) what is happening with new technologies. I feed these developments into my investment system to have it consider how to position under these conditions, while I also independently reflect on what I should bet on.
When considering how to bet under these circumstances, the most important question is: what exactly are you trying to achieve? a) Take a heavier bet on new technologies compared to broad market indices like the S&P 500—overweighting this emerging sector or the top few companies within it; b) Keep your exposure roughly aligned with index weights; or c) Diversify away from this concentration?
Almost everyone wants to buy the best investment and strives to do so, and indeed, a new technology has emerged that appears to be changing nearly everything. But history shows that at this stage of the cycle, most people fail by betting a large portion of their capital on the stocks of a few leading tech companies. There is a logical reason behind this, and it has always unfolded this way in the past. Although AI technology is truly unique this time, many other equally “unique” new technologies have appeared throughout history and can serve as analogies and references. People should study these cases; if they choose to ignore them, they must be able to clearly explain why this time is different.
The risk is undoubtedly high.
Throughout history, all major new technologies have unfolded in similar ways due to the same underlying logic. High risk and extreme uncertainty are inherent characteristics of companies pioneering these new technologies. Reviewing how similar companies performed under comparable historical conditions, we find that even the most successful revolutionary tech firms—such as Microsoft and Apple—suffered severe setbacks during comparable stages of their development. Moreover, when these new technology companies first emerged—rather than in hindsight—it was not easy to predict which would succeed and which would fail, as with IBM. If you examine all these cases, you will see: major new technology companies inherently possess highly uncertain futures.
For example, they either overinvest or underinvest. The reason is that if they don’t invest enough to win the competition, they will surely lose; yet they cannot precisely predict the future to determine whether they have overinvested. Both overinvestment and underinvestment carry high costs.
Moreover, they cannot accurately predict all changes, including exogenous factors such as monetary tightening, wars, or significant tax shifts—all of which impact them. As a result, they all experience extreme upward and downward cycles: first exciting investors, then frightening them, washing out fragile holders, and ultimately causing exaggerated market volatility. Furthermore, just as these new technologies and tech companies once disrupted their predecessors, most of them will eventually be disrupted by even newer technologies and companies in ways we cannot yet foresee. Therefore, we should also consider whether similar risks could affect today’s emerging technologies and tech companies. The impact of quantum computing is one known known risk. But what about the risks we have not yet imagined?
What about the risks posed by competitors? For example, China is producing and distributing AI technologies, and Chinese policymakers hold entirely different views on the economy and AI. We are now in the midst of a new technology war, and leaders around the world believe they must win it. Their understanding of AI and its impact on the economy and public well-being will drive them to offer this technology for free or at low cost, given its substantial productivity gains and its potential to raise overall living standards. In their view, profit is less important than the broader benefits of widespread adoption of these new technologies. I believe they will compete internationally in the same way they have with automobiles, solar panels, batteries, and many other products.
This current environment resembles many historical cases that have provided valuable lessons. I can’t help but think about how Britain, at the dawn of its empire and the decline of the Dutch Empire, outcompeted the Dutch in shipbuilding and other critical industries. Additionally, there is a geopolitical conflict surrounding Taiwan, which at the very least should prompt us to consider the possibility that China could block chip exports from Taiwan as a tool of geopolitical warfare. AI stocks also face other risks, such as the potential rise in wealth taxes and other levies, which could force holders with substantial wealth concentrated in these stocks to sell; or rising anti-AI sentiment, which might constrain companies’ ability to advance their technologies.
I could list even more concerning issues, and just as long a list of massive opportunities AI will create that I’d bet on. I’m not saying these risks will definitely unfold, nor am I saying one shouldn’t invest in AI companies. I’m simply saying that there is substantial concentrated risk in the market—this is undeniable—and people should understand how to navigate such an environment. Based on my research into all similar cases and the underlying logic, I am confident the risk is high, and the best way to respond to this environment is:
Diversify effectively
You may know that my mantra is “diversification.” My “investment holy grail” is: strive to hold 15 high-quality, uncorrelated investments that are risk-balanced. In other words:
A well-diversified portfolio composed of high-quality bets will outperform a single concentrated bet. It offers a superior risk-reward ratio and can be engineered to deliver better returns at the same level of risk. The more concentrated the risk in a particular market segment, the more important it is to diversify—especially when the market is driven by revolutionary new technologies, as these inherently generate significant uncertainty.
This is not an opinion—it is a mathematical certainty. For example, if I compare an investment with a risk-reward ratio of 0.3, assuming a return of 6% and a standard deviation of 18%—which is typical for stocks—then by holding five, ten, or fifteen uncorrelated investments, I can achieve the same 6% return, but the risk measured by standard deviation drops to 8%, 6%, and 5%, respectively. Thus, holding fifteen high-quality, uncorrelated investments increases my risk-reward ratio by 4.3 times, from 0.3 to 1.29. If you wish, you can even apply leverage on top of this to achieve significantly higher returns at the same level of risk. This is a fact.
I have strong confidence in this. The reasons come from my backtesting, the actual returns I’ve delivered over my more than 50-year investment career, and the logic grounded in probability: well-diversified bets, calibrated to the level of volatility one is willing to accept, will generate significantly better long-term returns than the concentrated bets most investors tend to hold. More specifically, with good diversification, one can achieve a superior risk-reward ratio than any concentrated bet; and by adjusting it to one’s desired risk level, one can achieve higher returns at that target risk level than any other approach.
Because I’m sharing this approach, it’s no longer my “not-so-secret” method for investment success. Still, I rarely encounter investors who think about investment strategies this way—that is, those who consider portfolio construction: how a well-structured, diversified set of bets might perform differently compared to concentrating holdings in stocks from a single groundbreaking new industry. Most people simply ask whether these stocks and this industry will perform well, and how best to bet on them. There’s a huge difference in outcomes between those who think about portfolio construction and those who don’t. I’ll elaborate further on my ideas about how to do this well at another time.
Given all these reasons, in the current environment, thinking about how to play your hand wisely should lead you to ask yourself: What proportion of concentrated exposure should I hold before diversifying?
The returns may appear very low.
The high risk is undeniable. Next, I’ll present a potentially incorrect view: expected future returns are very low. My assessment of future expected returns comes from valuation-related analysis and my bubble indicators: real stock returns over the next 5 to 10 years appear to be in the range of -5% to -10%, though these figures carry considerable uncertainty. In my view, these stocks are long-duration assets with high risk, because it is difficult to reliably see far into the future; at the same time, they appear overvalued and have an unstable holder base.
One question raised by my research team on this topic
During our most recent meeting, a member of my research team asked me: Why do you believe the market’s current allocation is incorrect? How do you know that the lack of diversification in today’s market isn’t due to reasonable causes? For instance, some investors expect extremely high returns from AI stocks; or, when an industry accounts for such a large share of total market capitalization, this index concentration may naturally occur; or, when a sector attracts intense enthusiasm, many investors buy into these stocks without making smart, reliable calculations about future earnings or how those earnings should be reflected in stock prices.
My answer
Price increases can stem from various reasons, not all of which are positive. Some investors consider the price and push it higher because they believe it remains attractive relative to fundamentals; others hold these stocks long-term because they recognize them as groundbreaking technology and view the price rise as confirmation that these are good stocks; still others have index exposure, which gives them passive, significant weight in these stocks. In my view, you can dwell on these issues to decide what you want to do—or you can recognize that you don’t need to dwell on them at all, because you simply don’t have enough information to make a confident bet. You can just say: “I don’t know enough to place a bet.” And then don’t bet.
What gets people into trouble is believing they must form an opinion and that their opinion is valuable; more likely, they cannot form an opinion reliable enough to bet on.
Footnote: To be clear, I’m not suggesting you avoid betting altogether. In fact, you can’t avoid betting—you must put your money into some form of investment or cash. Most people consider cash the lowest-risk investment, but over the long term, it’s almost certainly the worst one. What I’m recommending is that, even if you don’t have tactical views on which markets are good or bad, you should know how to diversify your bets effectively. The way to do this is by maintaining a well-balanced strategic asset allocation and sticking with it when you lack sufficient confidence in your tactical views. But that’s a topic for another time.
Therefore, I believe: knowing what you don’t know, and thus deciding when not to bet, is just as important as knowing what you do know, and thus deciding when to bet.
In simpler terms, I believe in the following principle: since it’s usually difficult to gather enough information to justify concentrated bets, the best approach is to hold a diversified portfolio consisting only of your most confident, uncorrelated bets, and then engineer that portfolio to match your desired risk level. This is my “investment holy grail.”
At this moment, given the current set of conditions, I don’t believe anyone sufficiently understands 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 way to respond to this uncertainty. I know this contradicts the theories you might find in textbooks, which essentially claim that markets are efficient, so you should “trust the market.”
In summary, the current market is unusually concentrated around a revolutionary new technology. This fact should remind us not to confuse our excitement about the new technology with the inherent attractiveness of stocks tied to it, nor to abandon caution by holding a concentrated portfolio of high-risk, highly correlated bets. Especially when we can achieve similarly attractive returns with significantly lower risk through intelligent diversification.
P.S. I won’t share my specific positions or tactical views with you, as I don’t want to act as your investment advisor. However, I’ll soon share some key perspectives behind these views, including my bubble indicator readings and the logic behind them.