David Grant
Contributing Writer
instructor@mywealth.com
We are into the 2nd Qtr of 2009 and you will have noticed that the stock market did some more jumping around – some of the time it actually went up!
If you work with an advisor, they should have rebalanced your portfolio by now. Different advisors do work on different schedules – some look to rebalance every quarter, some every six months, and some maybe every year.
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But what do they do when the “rebalance”? Most of the time, you see trades taking place in your accounts (which may cost you fees/commissions) and you may wonder if it’s entirely necessary.
What if you don’t work with an advisor – why not rebalance your accounts by yourself? Managing a Goal Oriented Portfolio is a little counter-intuitive at first, but very straightforward once you see all the value rebalancing adds.
What is “Rebalancing?”
Rebalancing is a term used when using asset allocation models to help with your investments. Say for example that you analyzed your risk tolerance and you felt comfortable having a portfolio of 50% bond mutual funds and 50% stock mutual funds (50/50).
When the stock market goes up in value, it could mean that your stock funds are now worth more than your bond funds. After a period of time of this growth, your portfolio may be weighted so that it’s now 40% bonds and 60% stocks. This is not in line with your target anymore – it’s “out of balance”. To make your portfolio match your target again, and keep the volatility manageable you will need to sell some of the stock funds and buy some bond funds.
This process happens continuously throughout your investing life, as market fluctuations will continue to happen. Learn to love it, as it will be something that will need to done for as long as you’re an investor!
Why do it?
When you analyze your risk tolerance and decide on an asset allocation that matches it, you should be prepared for a pre-determined rate of return. If you don’t keep to that target, your rate of return won’t be what you expected. For example, if you let a 50/50 allocation go to 70/30, your rate of return will decrease and your portfolio won’t grow as much as you had expected.
Make sure you get enrolled in the personal finance course and investing course in order to make certain you are on track for your financial goals.
What if it went the other way? You had a 50/50 allocation and by market growth, you ended up with a 30/70. Shouldn’t you leave your allocation more weighted in stocks so you can make more money as the stock market is going up and making you more money? Sure you can, but remember two things.
What goes up, must come down. If people had left their portfolio unbalanced in the middle of 2008, they would have experienced a bigger portfolio decline than if they would have rebalanced back to their target.
Second, you chose your target for a reason. Your risk tolerance is what helps you sleep at night. For example, if you let your portfolio go to a 10/90 allocation to get the most out of market growth, how well will you sleep when it goes down 10% in a week? You’ve now lost more money than you would have if you were to stick to your target.
When?
That depends on you. Don’t do it more than once a quarter as you’ll get sick of it and you may end up paying a fortune in trading fees. Also, your portfolio may not fluctuate much in this time period. Once a quarter is enough, even once every six months might be adequate.
If you rely on your portfolio for income, it may make sense to review your portfolio every quarter to see if you have enough cash. Recently as the market has been hard to watch, it may have made sense to have a years worth of living expenses on hand, but if you feel more comfortable with the market now, then looking to reinvest some of that money may be part of your rebalancing process.
If you’re young and regularly investing, once every six months should be just fine. But remember, do it on a timeline that you’re comfortable with.
You don’t have to hire anyone to do this for you – with a little education: you’ll be more than capable. If the thought of looking at your portfolio in detail is in the same ballpark as having teeth pulled, you may want to hire someone to do it for you!
