Child rebalancing on a seesaw

Balancing Act: When Rebalancing Your Portfolio Makes the Most Sense

January 20, 2020

By Ted Hanson
Securities Analyst 

A new year is under way. When it comes to New Year's resolutions (eating healthier, exercising, saving, etc.), many of us look back over the previous year, evaluate ourselves and set goals for the future. Have you done the same thing for your retirement investments?

Evaluating and rebalancing your portfolio is a great way to keep you on track to reach your retirement goals.

Why should you rebalance your investments?

Over the course of a year, the market value of the various investments in your portfolio grow at different rates. This can result in a change in the asset allocation of your portfolio. For example, a 50-percent stock and 50-percent bond portfolio could have grown closer to 60 percent stocks over the last few years!

Now this may seem like a good problem to have (your assets are growing, after all). But what is often overlooked is the risk you are taking. In the example above, you now own more risk (stocks) than you initially intended. In addition, your portfolio may be more dependent on the success of fewer investment options. For example, if you own equal weightings of two assets and one of them doubles in price while the other remains even, two thirds of your portfolio’s return now becomes dependent on the future success of the winning asset.

Rebalancing helps you maintain a risk level that you are comfortable with. Rebalancing also forces you to buy low and sell high.  And because the various assets appreciate at different rates over time, this year’s losers may be the best performers next year.

How to rebalance your portfolio:

Rebalancing involves buying and selling assets to get the portfolio back to the original weightings. In other words, you sell portions of your highest-performing investments and buy more of your lowest-performing investments. In the example above, if you were to rebalance you would sell approximately seventeen percent of the stocks and purchase bonds to bring the allocation back to half stocks and half bonds.

However, much like eating a healthier diet, rebalancing can be easier said than done. It is important to recognize that sometimes an asset may be underperforming for a reason. Analyzing your winners and losers to ensure they continue to be appropriate to hold in your portfolio is always encouraged. It is also worth noting that selling the top performers can produce capital gains. With taxable accounts, this could affect your tax bill. 

When should you rebalance?

Unlike that gym membership you bought last year and didn’t use, setting an investment allocation is not a “set it and forget it” task. It is wise to periodically review your portfolio and rebalance when necessary. The frequency is ultimately up to you. Many people rebalance annually while others rebalance only when an asset has reached a certain percentage above or below their ideal allocation. For example, you could rebalance whenever your stocks move ten percent from their initial allocation. Depending on the year, this may trigger a rebalance less frequently or possibly multiple times a year. 

The benefits of rebalancing should not be ignored. A simple annual rebalance is a great way to limit the risk within your portfolio and ensure your performance does not become too reliant on any individual asset. It also gives you a great opportunity to look back and reflect on the winners and losers within your portfolio.

If you would like to discuss how rebalancing may help you reach your goals, contact us today!

About the Author

Ted Hanson

Ted Hanson is a Portfolio Manager within the Wealth Management Division at Security National Bank. He serves customers by managing client portfolios, analyzing securities and performing daily trading activities. Ted is a graduate of Morningside College with a degree in finance and accounting. He started at SNB in 2017.