** > Risk Balancing Assets helps in avoiding unwanted balance sheet exposure.  **  Risk needs to be offset to reduce exposure.  #### Optimal Beta Portfolio “Betas are limited in number (that is, not many viable asset classes exist), they are typically relatively correlated with each other, and their excess returns are relatively low compared to their excess risks, with Sharpe ratios typically ranging from 0.2 to 0.3. However, betas are reliable – we can expect they will outperform cash over long time horizons.” - Ray Dalio ![[Pasted image 20210714125824.png]] “Low-risk/low-return assets can be converted into high-risk/high-return assets. Translation: when viewed in terms of return per unit of risk, all assets are more or less the same. Investing in bonds, when risk-adjusted to stock-like risk, didn’t require an investor to sacrifice return in the service of diversification. This made sense. Investors should basically be compensated in proportion to the risk they take on: the more risk, the higher the reward.” > Combining assets with similar volatility into a portfolio results in a total allocation with more in low-volatility assets (like bonds) and less to high-volatility assets (like stocks). - Equity risk where the growth in the economy would be less than discounted. This risk could be hedged by **pairing equities with another asset class** that also has a positive expected return but would rise when equities fell and do so with similar magnitude to the decline in stocks.  - Long Duration Bonds have the same risk as stocks  In terms of return per unit risk, all assets are more or less the same.  ![[Pasted image 20210714130038.png]] Risk adjusting bonds to stock like risk did not lead to compromising on return in the service of diversification A security whose principal value is tied to inflation  - **Inflation Link (IL) Bonds** 1. Do well in environments of rising inflation  2. Negatively Corelated to Commodities relative to growth All asset classes in the boxes would rise over time and this is how a capitalist system works  - A central bank creates money and those who have good uses for it, borrow it and use it to achieve a higher return. - These securities come in 2 forms: - Equities (Ownership) - Bonds (Loans) - The 4 boxes don't offset each other entirely as the net return of the assets in aggregate are positive over time relative to cash. **- The environmental exposures cancel each others out and leave just the risk premiums left to collect. ** --- When Investing over the long run, all you can have confidence in:  1. Holding assets should provide a return above cash  2. asset volatility will be largely driven by how economic conditions unfold relative to current expectations and how there expectations change  > Asset class returns, correlations, or volatility is an attempt to predict the future. [Bridgewater Associates](https://www.bridgewater.com/research-and-insights/balanced-beta-investing)