The Benefits of Portfolio Rebalancing
What is portfolio rebalancing? Portfolio rebalancing is the periodic realignment of a portfolio’s holdings through buying or selling incremental share lots to maintain the originally desired level of holdings. This rebalancing process restores portfolio holdings to their optimal target allocations, helping investors avoid portfolios drifting too far away from their initial and intended objectives. A typical rebalancing strategy tends to sell (trim) assets that have significantly appreciated in price, while adding to those that have declined. At its core portfolio rebalancing is a risk‐minimizing strategy.
Additionally, portfolio rebalancing can be used to reconfigure assets during periods of increased market volatility. For example, in a period where stock markets may be experiencing a sell‐off, portfolio managers could temporarily rebalance the portfolio by selling (or reducing exposure to) higher risk assets, such as stocks and increasing exposure to lower risk investments, such as short duration bonds or cash.
Benefits of Portfolio Balancing
- Keep portfolios aligned with investment risk/reward objectives. In a diversified portfolio, which may hold several differing investment instruments (asset classes) such as stocks, bonds or alternative assets, rebalancing is a way to adjust the risk versus reward tradeoff. Each day various asset classes get revalued by their respective markets participants, with some being rewarded better, while others get punished. This constant revaluing of assets can cause a portfolio to become skewed towards too either too much risk or too little risk, relative to the intended investment objective. Using regular rebalancing can help mitigate this portfolio skew risk.
- Systematic portfolio rebalancing makes investors more disciplined and less emotional. Regular portfolio rebalancing provides a systematic way to trim portfolio winners and then add that money into asset classes that have underperformed and could be ready to rebound. Given no asset class stays on top forever, this pruning of winners and reallocating into assets where new market leadership may arise has historically proven to be a benefit to investor portfolios.
- Rebalancing serves as reminder for more thorough portfolio reviews. Having a systematic approach to keeping a portfolio aligned to investment objectives serves as a good reminder to do more thorough portfolio checkups. Being under the proverbial “hood” on a regular basis reminds portfolio strategists and investors that every once in a while a portfolio may need more than a little tune up!
This material is intended presented for educational purposes only and should not be used or relied upon to make investment decisions. Any references to returns are not to be relied upon as past returns may not be an indication of future returns.
Investors should carefully consider their personal investment objectives, risks, charges and expenses. Investing can result in the loss of some, or all of your principal, please consult a financial professional before investing.