Casual investors often neglect to rebalance their portfolio. While rebalancing may seem a trivial thing to some, or one of those distant "when I get around to it" things, it shouldn't be.
Casual investors often neglect to rebalance their portfolio. While rebalancing may seem a trivial thing to some, or one of those distant “when I get around to it” things, it shouldn’t be.
When you first start investing or saving for retirement, you select a mix of investments to diversify your portfolio, with some diversity of stocks, bonds, short- and long-term investments, index funds, and perhaps some international equities. You probably check on that portfolio periodically to look at the returns and make sure your investment is growing.
But investments change all the time. Financial markets swing up and down. Companies go through periods of growth and profitability, and periods of contraction. Interest rates shift often. Each of these factors and many more can contribute to shifts in not just the value, but also in the allocation of your portfolio. As some asset classes grow and others sink, the weighting of each asset class in your portfolio will change. Rebalancing is the process of buying and selling portions of your portfolio in order to set the weight of each asset class back to its original state.
Rebalancing your portfolio is like periodic auto maintenance. You get regular oil changes, even if the muffler isn’t falling off, right? Of course you do.
“If it Ain’t Broke, Don’t Fix It”
This common cliché can be very damaging to portfolios. The thinking often goes like this: If my portfolio is out of balance because one asset class is growing, why would I want to sell some portion of that investment to get back into balance?
That’s a legitimate question. The answer is something you see as part of the disclaimers for any fund that’s advertising their services: “Past performance is not an indicator of future results.” A fund that performed like gangbusters last year may swing in the other direction. Equities are generally more volatile than fixed income securities, so last year’s gains could be this year’s losses.
More importantly, if you’ve put any thought into your investment strategy, your goals are your own, as is your asset allocation mix. No regulatory body has mandated that a certain percentage of your investments has to be in any one vehicle. You’re the one who determined what that mix should be. If there’s a valid reason for adjusting those goals, by all means, adjust away. But if you’re going against your own established strategy to follow gains in one aspect of your portfolio, you may end up circumventing your own goals.
In theory, rebalancing is simple: asset classes that are achieving a nice return and now occupy a greater proportion than the rest of your portfolio are sold, while asset classes that have declined as a percentage of your portfolio are bought, increasing the proportion of these assets so that they are once again in line with your investment strategy.
In practice, rebalancing can be a little more complicated. Financial statements, even when they come in the handy form of “easy to read” pie charts, can be confusing, and they may tell you your current mix of assets but not how that compares to the mix you want. Transaction costs and tax considerations will be part of the mix as well. If you have a trusted advisor, talk to him or her about whether or not you need to rebalance, how often you might need to do so, and exactly how to go about doing so. If you don’t have an advisor, it’s something you might want to consider.
Another aspect of rebalancing that’s important is that over the course of your physician career, your own goals, strategies, and risk tolerance will also change. Those changes should be reflected in your current asset mix as well.
When you look at your financial statements, don’t just look at the return. Do a deeper dive, and make sure the balance you want is the one you’re pursuing.