Best Practices for Portfolio Rebalancing

Welcome to MutualFunds.com

Please help us personalize your experience and select the one that best describes you.

Your personalized experience is almost ready.

Join other Individual Investors receiving FREE personalized market updates and research. Join other Institutional Investors receiving FREE personalized market updates and research. Join other Financial Advisors receiving FREE personalized market updates and research.

Thank you!

Check your email and confirm your subscription to complete your personalized experience.

Thank you for your submission

We hope you enjoy your experience

Channels

Find the latest content and information here about the 2019 Charles Schwab Impact Conference.

Advisors

Receive email updates about fund flows, news, upcoming CE accredited webcasts from industry thought leaders and more.

Content focused on helping financial advisors build successful client relationships and grow their business.

Content geared towards helping financial advisors build better client portfolios.

Get insights on the industry trends and investment news from leading fund managers and experts.

Best Practices for Portfolio Rebalancing

Sam Bourgi

|

Portfolio Rebalancing - Best Practices
Portfolio rebalancing is all about minimizing risk relative to asset allocation without overlooking your underlying goals and temperament. Although the benefits of rebalancing are well understood, best practices aren’t always easily identifiable, especially for new and inexperienced investors.
Mutual fund investors know the rationale for portfolio rebalancing. Since asset classes produce different returns, your portfolio’s asset allocation needs to change over time. To get your portfolio’s asset allocation back to its desired level, you need to employ a rebalancing strategy. Although there is no optimal frequency for rebalancing (i.e., monthly, quarterly, annually, etc.), the number of rebalancing events has important cost implications – namely, tax, time and labor.

In general, the more rebalancing events, the higher the cost of maintaining your portfolio. Luckily, that’s where best practices for portfolio rebalancing comes into play.

Find out the funds suitable for your portfolio using our Screener tool.

Best Practices

Investors have several best practices at their disposal to strategically manage their portfolio rebalancing approaches. In what follows, we will consider four such strategies.

1. Select a rebalancing trigger to instil discipline

We mentioned earlier that there is no one-size-fits-all model for how frequently you should rebalance your portfolio. However, research from Vanguard found that, for diversified stock and bond fund portfolios, annual or semiannual monitoring which rebalances at a 5% threshold is the most effective strategy.

Without the threshold, the number of rebalancing events would be significantly higher and, therefore, costlier. For example, if you rebalance monthly without a threshold, you could be looking at 1,008 rebalancing events. If you did the same thing only with a 10% threshold, you would require only 15 rebalancing events.

In any case, you should set up a fixed schedule of rebalancing regardless of the exact frequency. After all, this is one of the best ways to remove emotions from the investment process.

2. Rebalancing with portfolio cash flows

One of the best ways to keep portfolio management costs under control is to rebalance with existing portfolio cash flows.

The dividends, interest payments and realized capital gains of your portfolio can be used to meet your rebalancing needs. This strategy is most effective for taxable portfolios. Instead of paying taxes on withdrawn earnings, you can simply redirect those funds to underweighted asset classes.

Want to learn more about portfolio rebalancing? Click here.

3. Rebalance to target asset allocation or some intermediate asset allocation

Knowing whether to rebalance to the target allocation or an intermediate allocation can save you lots of money in the long run.

When costs are fixed and independent of the size of the trade, rebalancing to your target allocation is ideal because it eliminates the need for further transactions. However, when trading costs are proportional to the size of the trade, an intermediate approach that rebalances to the closest threshold is optimal.

4. Rebalance within tax-advantaged accounts

It goes without saying that a rebalancing strategy is best executed within a tax-advantaged (i.e., tax-free) account. In practice, this usually means owning a mix of assets in both taxable and tax-free accounts. This set-up gives you a better chance to benefit from any significant adjustments within your tax-advantaged accounts.

Learn about other portfolio management concepts here.

The Bottom Line

Portfolio rebalancing doesn’t have to be complicated. By following the best practices laid out in this article, you can improve your portfolio’s performance without sacrificing risk control.

Sign up for our free newsletter to get the latest insights on mutual funds.


Sign up for Advisor Access

Receive email updates about best performers, news, CE accredited webcasts and more.

Popular Articles

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.


Read Next

Portfolio Rebalancing - Best Practices

Best Practices for Portfolio Rebalancing

Sam Bourgi

|

Portfolio rebalancing is all about minimizing risk relative to asset allocation without overlooking your underlying goals and temperament. Although the benefits of rebalancing are well understood, best practices aren’t always easily identifiable, especially for new and inexperienced investors.
Mutual fund investors know the rationale for portfolio rebalancing. Since asset classes produce different returns, your portfolio’s asset allocation needs to change over time. To get your portfolio’s asset allocation back to its desired level, you need to employ a rebalancing strategy. Although there is no optimal frequency for rebalancing (i.e., monthly, quarterly, annually, etc.), the number of rebalancing events has important cost implications – namely, tax, time and labor.

In general, the more rebalancing events, the higher the cost of maintaining your portfolio. Luckily, that’s where best practices for portfolio rebalancing comes into play.

Find out the funds suitable for your portfolio using our Screener tool.

Best Practices

Investors have several best practices at their disposal to strategically manage their portfolio rebalancing approaches. In what follows, we will consider four such strategies.

1. Select a rebalancing trigger to instil discipline

We mentioned earlier that there is no one-size-fits-all model for how frequently you should rebalance your portfolio. However, research from Vanguard found that, for diversified stock and bond fund portfolios, annual or semiannual monitoring which rebalances at a 5% threshold is the most effective strategy.

Without the threshold, the number of rebalancing events would be significantly higher and, therefore, costlier. For example, if you rebalance monthly without a threshold, you could be looking at 1,008 rebalancing events. If you did the same thing only with a 10% threshold, you would require only 15 rebalancing events.

In any case, you should set up a fixed schedule of rebalancing regardless of the exact frequency. After all, this is one of the best ways to remove emotions from the investment process.

2. Rebalancing with portfolio cash flows

One of the best ways to keep portfolio management costs under control is to rebalance with existing portfolio cash flows.

The dividends, interest payments and realized capital gains of your portfolio can be used to meet your rebalancing needs. This strategy is most effective for taxable portfolios. Instead of paying taxes on withdrawn earnings, you can simply redirect those funds to underweighted asset classes.

Want to learn more about portfolio rebalancing? Click here.

3. Rebalance to target asset allocation or some intermediate asset allocation

Knowing whether to rebalance to the target allocation or an intermediate allocation can save you lots of money in the long run.

When costs are fixed and independent of the size of the trade, rebalancing to your target allocation is ideal because it eliminates the need for further transactions. However, when trading costs are proportional to the size of the trade, an intermediate approach that rebalances to the closest threshold is optimal.

4. Rebalance within tax-advantaged accounts

It goes without saying that a rebalancing strategy is best executed within a tax-advantaged (i.e., tax-free) account. In practice, this usually means owning a mix of assets in both taxable and tax-free accounts. This set-up gives you a better chance to benefit from any significant adjustments within your tax-advantaged accounts.

Learn about other portfolio management concepts here.

The Bottom Line

Portfolio rebalancing doesn’t have to be complicated. By following the best practices laid out in this article, you can improve your portfolio’s performance without sacrificing risk control.

Sign up for our free newsletter to get the latest insights on mutual funds.


Sign up for Advisor Access

Receive email updates about best performers, news, CE accredited webcasts and more.

Popular Articles

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.


Read Next