Thinking about an all-weather portfolio

The all-weather portfolio that has been the basis for the success of Bridgewater is a good starting point for many discussions about global macro investing. The foundation of the all-weather approach is based on looking at the investment risks through a simple lens of inflation and growth. Inflation can be either expected to be rising or falling and economic growth should expected to be either rising or falling. Hence, a simple four square matrix can describe the world through these two simple risks. Each of he four quadrant in this simple approach can be filled with assets that will perform better in that environment.

All-weather approach	Growth	Inflation
Rising expectations	Equities, commodities, corporate and EM credit	Inflation linked bonds Commodities; EM credit
Falling expectations	Nominal bonds; inflation-linked bonds	Nominal bonds Equities

CSSA provides a nice diagram of what this Bridgewater all-weather portfolio will look like. It is a nice baseline for thinking about portfolio construction. The approach is based on the assumption that an investor does not have any idea of what will happen with growth or inflation. The investors is information-less. Hence, the best position would be to hold an equal weighting of asset in each one of the possible quadrant. It is all-weather because the investor has exposure to everything. 

This is a good methodological framework, but it can be improved upon using some simple tools. 

First, the use of a risk parity framework can allow for allocations based on volatility and not cap allocation. Second, the definition of each category can be better refined. In simple terms, there is a huge different in a high growth scenario whether you invest in small  or large cap, or whether you invest in the US or world markets. The same refinement applies to fixed income. Third, the whole process can be dynamic. That is, the risk weighting can change based on the environment faced. The baseline portfolio can be a foundation for discussion but also a jumping-off point for serious asset allocation action.