Thursday, April 16th, 2015
welcome to the machine

Ray Dalio founded the hedge-fund colossus Bridgewater some four decades ago.  He stands out among the leaders of investment firms for his unusual thoughts about how things work.

To wit:  economies, organizations, and individuals are machines.  They can be analyzed by how well they operate, by how well they produce outcomes to meet particular goals.  In some instances, there are opportunities to design and improve a machine (for example, an asset management organization) while in other cases (think of the world economy) what you need most are the ability to understand and to adapt.

Dalio’s economic ideas and investment practices are worthy of study, but it is his organizational thinking that usually commands attention and divides those who have looked closely at Bridgewater into three categories:  the believers, the confused/uncertain, and those that see a cult of sorts.

A 2011 New Yorker article by John CassidyNew Yorker | Titled, “Mastering the Machine.” is a good introduction to Dalio’s thinking, but there’s no substitute for reading his 123-page tome, Principles.Bridgewater Associates | The PDF is provided by the firm.  It is an exposition of his personal beliefs, which form the blueprint for how employees of Bridgewater are to approach the challenges of their lives and jobs.

It is a radical document in a world where most investment firms are afraid to exert much control over their employees (or at least the ones considered to be “professionals”), where introspection and confession are not habitual activities, and where much thinking about process tends to be shallow (and focused on the marketing aspects of process) rather than original and thorough.

One can’t read Principles without having strong reactions.  It is a manifesto that forces you to consider your beliefs and actions — and to think about the machines of your own world and those that you encounter.  In going back to my marked-up copy of the manuscript, I found that there were lots of sections where I wrote my initials in the margin to indicate that Dalio hit upon something that was important for me to explore, as a person and/or as an individual providing consulting services.  (The self-evaluation can be painful and enlightening.)

Similarly, there are mental models and perspectives and opinions provided that help me to think about how organizations operate.  The concepts can seem utopian — unattainable in practice and even unwise given industry norms.  Nevertheless, I think that leaders of organizations (as well as anyone else) can use Dalio’s ideas as a template by which to examine their own beliefs and decisions.

To take one simple example, Dalio says, “In picking people for long-term relationships, values are most important, abilities come next, and skills are the least important.”  Compare that to standard practice and to the hiring decisions of your own organization.  Is that your order?

Coming at it from a different angle, Principles makes you wonder whether those who evaluate and select asset managers truly understand how they function.  Along those lines, Peter Lupoff wrote that “many large and well-known investment managers may appear to be seamless engines, but their ‘franchise’ masks the dysfunctional ways that ideas are identified, processed, find their way into portfolios and cause compensation to investment professionals.”BeyondProxy | Lupoff is the founder of Tiburon Capital Management.

An automobile can be shiny and attractive and can have comfortable seats from which to enjoy the ride.  Most of us understand nothing about the mechanical parts and electronics that make the machine perform its intended function.  Until the day when something breaks and the warning lights indicate a serious problem, we are oblivious to its operation.

Those analyzing asset managers have two warning lights that they stare at constantly:  the one that shows recent performance and the one that indicates whether a key professional has left.  Assessments are made mostly on basis of whether those two are unlit, yellow, or red at any point in time.

But the essence of the asset management machine in question?  It’s as obscured as the workings of our cars are to most of us.  We no more understand the process by which performance is produced than we can explain the complex interplay of elements that move the automotive miracles that we drive around.

Dalio might seem a little odd, inviting you in and saying, “Welcome to the machine.”  But the journey of discovery that he leads you on is worth the time, if only to grasp how infrequently we think about the machines under our control and how little we really know about those that power the investment solutions on which we depend.