Broker Check

What is Rebalancing?

| September 30, 2019

When I see large, old trees, I often wonder the path they took to achieve their impressive forms. See, as trees grow, they need to be trimmed and “seen to” every now and again.

If you’re a homeowner with trees on your property, you’re quite aware of the upkeep. In nature, wind and the other elements do that work.

Either way, this regular maintenance helps trees grow to their ideal shape and size. The same is true with investing – regular portfolio maintenance is a must.

When you have an investment plan, there’s a specific strategy on how to allocate money in your portfolio. Over time, your portfolio may need some trimming to maintain the investment strategy. That process is called “rebalancing.”

The investment allocations in your portfolio can change because of market performance. Say the initial allocation in your portfolio is 70 percent equities (made up of various categories), and 30 percent bonds of different sorts.

You invest your money accordingly, and after a year, check the portfolio. Let’s say the stocks performed well and became more valuable.

Fantastic! Your portfolio likely gained value.

However, because of the appreciation, stocks have ballooned to 75 percent of your portfolio’s overall value. The 70/30 split no longer exists.

To restore the allocation percentages, you would rebalance the portfolio by selling 5 percent of the stocks and using the proceeds to invest in bonds. This would get you back to the desired investment mix.

When you rebalance a portfolio, you adjust it to meet a desired allocation. It’s a simple concept. Most investors have heard of it or read about it and agree it’s a useful strategy.

Still, most people don’t rebalance.

A few years ago, one of the leading 401(k) fund companies found that the majority of its clients made no changes to their investments up to seven years after starting the plan, despite annual reminders to do so.  That’s a shame because the economy today is very different than it was in 2012.

Why don’t people rebalance? All I can say is everyone has their reasons. However, the fact remains – people should do it.

Rebalancing is one reason why people with financial advisors tend to do better than those who “go it alone.” Advisors regularly evaluate accounts and suggest changes. In other words, they rebalance.

But it’s not just the act of rebalancing that leads to success. It’s having a plan, sticking to it, and adjusting as needed. That said, rebalancing is an important part of that process.

In our next post on this topic, we’ll look more at why rebalancing works and how often you should do it.

Securities sold through CoreCap Investments, Inc., a registered broker-dealer and member FINRA/SIPC; advisory services offered by CoreCap Advisors, Inc., a registered investment advisor. Cornerstone Financial and CoreCap are separate and unaffiliated entities.