Rebalancing your Portfolio: What You Need to Know
In this guide, we walk you through the basics of portfolio rebalancing.
No matter your investing strategy or goals, sometimes, the value of your investments changes and may require a second look. If you haven’t done so already, consider rebalancing your portfolio to ensure target levels of diversification and to stay on track for your savings goals.
If you’re new to rebalancing or need a refresher, here’s what you should know. Also worth noting is that Vector clients (whose portfolios are managed by Vector) already receive rebalancing as an included service.
What is portfolio rebalancing?
Portfolio rebalancing is when you change your portfolio’s assets to maintain your target asset allocation. Most often, this requires buying and selling different assets to ensure your portfolio is appropriately weighted based on your pre-determined goals and investing strategy.
How to rebalance your portfolio
You can use the following steps to rebalance your portfolio:
Determine your target portfolio allocation: Make sure you understand the optimal portfolio allocation for your specific situation or speak with your financial advisor to determine what’s best for you.
Calculate the value of your assets: Total the value of the assets in your portfolio as a percentage of your total portfolio.
See how far your allocation is off target: Now, compare your target allocation with your current allocation. Identify asset classes where your allocations are not in line with your target.
Determine what to rebalance: This may require selling some assets and buying others. Don’t forget to take taxes and fees into account before rebalancing.
Monitor your portfolio: Repeat this process regularly to ensure your portfolio stays on target based on your goals.
For Example
Imagine you have a portfolio that’s allocated in the following:
● 50% stocks
● 40% bonds
● 10% money market
Now, imagine that the value of your stocks goes up by 20% and the value of your bonds decreases by 10%. Your portfolio will now have an allocation of:
● 57% stocks
● 34% bonds
● 9% money market
In this case, if you want to maintain the same allocation as before, you’ll need to rebalance your portfolio. This can be done by selling stocks and buying bonds to return to your original target portfolio allocation.
How Often to Rebalance
While in theory, you could rebalance your portfolio monthly or even weekly, the more you rebalance, the more taxes and fees you may have to pay. Our previous example shows that selling stocks to rebalance your portfolio could result in capital gains taxes, which may reduce your profits and be a liability to your rebalancing efforts.
Therefore, you may want to consider rebalancing quarterly, yearly, or as market opportunities are presented to reduce your tax and fee liability. It can help to set future reminders when you want to reexamine your portfolio and determine if it needs rebalancing.
While a time-based trigger, such as every quarter, may be an easy way to schedule your calendar, the fact is markets can shift with no regard for your recurring reminder. For some investors, setting up an alert in their brokerage account that triggers when a price level (high or low) is reached is a fine way to track position value changes.
Rebalance like the Professionals
Portfolio rebalancing is an extremely common investment practice. In fact, rebalancing is done by investment managers, institutions, hedge funds, and most other types of professional investors.
By rebalancing your portfolio back to target levels, you can reduce unwanted concentrations of select assets and classes. Again, if you are new to rebalancing or would like a professional opinion on your portfolio allocations, let us know.
Keep in mind that diversification and allocation policies do not ensure a profit or guarantee against loss. Stock markets can be volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. Investing in stock involves risks, including the loss of principal.