*Portfolio rebalancing may result in tax consequences, and you should consult with a tax professional for advice specific to your investments.

It’s not uncommon to find that people usually fall into one of two camps when it comes to what they believe investing looks like: there are people who think investing involves a lot of buying and selling stock, and those who think you invest and just stay hands off while your money grows. The truth is, neither strategy is the best approach to growing your wealth. 

To maximize your investment, it’s important to review your portfolio at least once a year to ensure it hasn’t gotten off balance. What does this mean? Rebalancing involves buying and selling positions in your portfolio in order to get back to your original asset allocation. Portfolios drift from their start investment mix when one asset class outperforms another. If you don’t periodically rebalance, you may be exposed to more risk than you realize.

When rebalancing your portfolio, it’s important to remember your investment goals and the role of each investment vehicle in your portfolio. For example, bonds provide stability and income, and shouldn’t regularly outperform equities.

For simplification, let’s assume that you start out with an asset allocation of 60% stocks and 40% bonds. Over time, the market value of your stocks grows but your bonds don’t, and you end up with 70% of your portfolio value in stocks and only 30% in bonds. To rebalance, you would sell some of the stocks and buy more bonds to bring the percentages back to 60/40.

When to rebalance

There are two approaches to when you should rebalance your portfolio:

  • Calendar based. Rebalancing on a regular basis such as quarterly or annually. This is a simple schedule to implement, however, rebalancing may not align with the actual changes in your portfolio’s asset allocation. For example, a significant drift could occur between rebalancing intervals. On the other hand, rebalancing could occur even if your investments changed little, which could result in an unwanted taxable capital gain.
  • Trigger based. Rebalancing occurs when your portfolio drifts beyond certain predetermined limits, such as if an asset class changes by 10% or more relative to its target allocation. This mitigates unnecessary rebalancing by prompting a rebalance only when an asset class has drifted too far. However, in periods of high market volatility rebalancing could be triggered several times, resulting in higher transaction costs and potential taxable capital gains.

Tips for portfolio rebalancing

  • Don’t overthink it. Markets fluctuate on a daily basis. Don’t attempt to rebalance your portfolio from day to day, especially since trading on your accounts could incur costs. Additionally, rebalancing during market volatility can be challenging and you run the risk of turning over your portfolio too quickly. 
  • Taxes. You should consider your tax consequences when recalibrating your portfolio if you have a taxable brokerage account. Do you need to harvest any losses? Are there long-term or short-term capital gains? In certain cases, managing money at the portfolio level (rather than per account) can help mitigate tax.
  • Rebalance to the right asset allocation. Rebalancing won’t solve anything if you’re not confident about your asset mix. If you need help building an investment portfolio that will help you reach your financial goals or want some guidance on rebalancing, we’re happy to help. Contact us to set up a meeting to discuss your investments.