Portfolio Rebalancing Helps You Stay On Course

Rebalancing a portfolio is a systematic process of buying and selling assets to maintain the desired ratio among various asset classes. This helps ensure your portfolio is consistent with the amount of risk you wish to undertake and helps you stay on track to achieve your investment goals.

What Is Rebalancing?

Your portfolio is built to a target mix across multiple asset classes, with a defined allocation to each. Over time market movements change those percentages. For example, a portfolio that starts 50% equities and 50% bonds might become 56% equities and 44% bonds after a strong equity year, which increases the portfolio’s risk.

Rebalancing brings the portfolio back to its target by selling the 6% overweight in equities and using the proceeds to buy bonds, restoring the allocation to 50% equities and 50% bonds.

Portfolios typically contain multiple asset categories, so rebalancing may be more complex than this simple example; however, the core idea remains the same: return the holdings to your chosen allocation, the recipe for how the portfolio should be invested.

A Disciplined Approach To Manage Risk

Portfolio rebalancing is a tool for maintaining a risk-appropriate portfolio. One perspective of rebalancing is the process involves selling assets that have had strong performance ("selling high") and purchasing assets that have grown at a slower pace ("buying low").

A disciplined approach to investing involves maintaining a risk appropriate, well-diversified portfolio. Rebalancing helps maintain your intended risk tolerance over time.

Benefits of Portfolio Rebalancing

Manage Risk

Rebalancing a portfolio restores the asset allocation to your desired risk tolerance.

Diversification

Rebalancing maintains the desired portfolio allocation, reducing concentration risk.

Reduce Emotion

Maintaining your desired risk tolerance helps keep your portfolio aligned with your goals, regardless of market cycles.

Ways To Rebalance

Calendar based rebalancing is rebalancing on a set schedule, such as annually.

Threshold based rebalancing is rebalancing a portfolio only when a specific "out of bounds" allocation is reached. For example, our 50/50 concept portfolio would be rebalanced if the ratio became 55/45, but not before, regardless of the time involved.

Dynamic rebalancing is directing future purchases or withdrawals to the asset classes that are over or under weighted, thereby rebalancing the portfolio.

Tax Consequence

For tax qualified accounts, like IRAs, Roth IRAs, SEPs, SIMPLEs, 457(b), 401(k), 403(b), there is no tax consequence for rebalancing inside of the account.

For taxable accounts, rebalancing often means selling appreciated assets, resulting in capital gains. Investments held less than one year are considered short-term gains, while those more than one year are long-term gains. Tax-loss harvesting is a strategy of selling assets with unrealized capital losses to offset some of the gains realized.

Dynamic rebalancing is directing future purchases or withdrawals to the asset classes that are over or under weighted, thereby rebalancing the portfolio.

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