3 Strategies for Re-balancing Your Portfolio
Congratulations! You’ve really paid attention to this series of articles and you’ve landed on the optimal asset allocation that perfectly matches your ability, willingness and need to take risk! Now what? Well, that portfolio must be managed to ensure that your asset allocation continues to serve you in the best way possible.
Undoubtedly, every individual asset class within your portfolio is going to experience volatility up and down. It’s that volatility that presents opportunities to rebalance your portfolio. When an asset class dips below a certain threshold, more of that asset class should be purchased.
Conversely, when an asset class rises above a certain threshold, profits should be taken and a portion of that asset class should be sold. Done consistently over long periods of time, this rebalancing equates to buying low and selling high – the winning strategy!
However, human investors are susceptible to having fear and greed set it at precisely the worst times. After an asset class (or the stock market as a whole) has fallen, fear sets in and investors sell. Then they wait until the market comes back and they feel more confident before they buy again. This is otherwise known as buying high and selling low – a sure fire way to lose in stock market investing. Systematically rebalancing can remove emotions from investing which can be extremely beneficial!
Now that we’ve established the importance of rebalancing your portfolio, here are three strategies for implementation:
#1 Do-it-Yourself – This is the most difficult, time consuming, and may I add dangerous strategy to pursue. However, if you’re a true do-it-yourself investor, create an Excel spreadsheet and assign each asset class in your portfolio with a target %. Create a column for “Target $$$” and another column right next to it with “Actual $$$.” The difference between these two columns is called “drift” and let’s you know how much of any asset class you need to either buy or sell in order to rebalance your portfolio so that the “Target $$$” and “Actual $$$” columns match as closely as possible.
I would recommend rebalancing your portfolio at least quarterly. As long as you’re not incurring large trading costs, this is more effective strategy than rebalancing only annually. For example, any one asset class may very well fall quite a bit during a calendar year, and then rebound (and could even turn positive) before the end of the year. If you’re only rebalancing annually, you may miss out on potential opportunities to buy low and sell high throughout the year.
#2 Sign Up With a Robo-Advisor – Another option is to open accounts with a robo-advisor service. You will receive top-of-the-line portfolio management (i.e. rebalancing, tax-loss harvesting) for a very reasonable cost. Since the portfolio is managed according to algorithms, your portfolio will be automatically rebalanced even if you’re not paying as much attention to the drift in your portfolio as you would like.
#3 Hire a Fee-Only Financial Advisor – A good fee-only financial advisor should not only provide you with a similar level of portfolio management as a robo-advisor, but should also provide you with comprehensive financial advice, including risk management (i.e. insurance), estate planning, retirement planning, employee benefits, and more. In fact, if you are seeking and receiving ONLY investment management from a financial advisor, then I would recommend seriously considering opting for a robo-advisor. You’ll likely receive the same level of portfolio management value but you’ll pay a lot less in fees.
Regardless of which strategy you choose, remember that the optimal investment strategy is not simply “buy and hold” or “set and forget.” Rather, you should “buy, rebalance, reevaluate and repeat,” no matter which rebalancing strategy you deploy.
A guest post by Christopher Girbes-Pierce, CFP, the Founder of Enlightened Wealth Management, a RIA that provides fee-only financial planning and investment management services for tech savvy, socially conscious entrepreneurs and professionals across the US. Chris is a member of the XY Planning Network and Financial Planning Association.