How to Rebalance Your Portfolio (and Why It Matters)

The choices you make about your investments are intentional, representing  a mix of different asset classes that reflect your tolerance for risk. However, market changes can cause that mix to drift — which can impact your ability to reach your goals in the way you planned. The solution? Rebalance your portfolio.

Rebalancing your portfolio realigns your assets to your intended allocation strategy and risk tolerance allowing your investments to stay on track. But it can be daunting to know how to rebalance your portfolio, or how often. Portfolio rebalancing helps you stay on track to reach your investment goals in two critical ways:

1. It helps keep your portfolio aligned with your risk tolerance so that your investments are at the risk/reward level that you’ve determined. 

2. It gives you the opportunity to lock in gains from one asset class and redeploy them to other asset classes that may have become relatively inexpensive.

When you make regular tactical changes, you can take advantage of shorter-term opportunities without losing sight of long-term strategic allocation.

Why Is It Important to Have a Balanced Portfolio?

Constructing your portfolio to include diverse asset classes (such as stocks, bonds, real estate and precious metals), as well as diversity within asset classes, helps mitigate risk. If one area of your portfolio experiences a downturn, other asset classes may not experience the same phenomenon, which can help balance out your exposure to uncertain circumstances. A balanced portfolio helps protect you from market volatility and spreads your eggs across multiple baskets.  

Building a diversified portfolio gives you a strong foundation, but you need to revisit your asset mix regularly to offset asset mix drift. For example, if you have invested in stock X, which has significantly increased in value, that stock now makes up a larger percentage of your portfolio than you had planned. If stock X suffers a sudden downturn, you could experience a more significant loss than you are willing to take on. Rebalancing investments allows you to stabilize your portfolio so you can continue to build toward your long-term goals.

How Often Should I Rebalance My Portfolio?

If your portfolio includes anything other than target date funds (which automatically rebalance), or is not professionally managed, you should rebalance regularly. Experts debate how often you should rebalance, but a good baseline might be once a year, or when your asset mix drifts more than a few percentage points from your intended portfolio makeup.

If you have taxable non-retirement investments, you may want to rebalance at the end of the year to take advantage of tax-loss harvesting. If your accounts are non-taxable (like most retirement accounts), it doesn’t matter when in the year you rebalance.

How Do I Rebalance My Portfolio?

The best way to start is to review your ideal situation, taking into account your preferred level of risk. Your risk tolerance is impacted by your current financial situation, your goals, your timeline and your personal approach to investing. If any of those have changed significantly, you should meet with your financial advisor to evaluate your strategy. 

Most accounts will include a breakdown of your current asset mix. Armed with the knowledge of your ideal mix of investments, look at your portfolio’s current allocation and compare that to the ideal, as well as the room for error percentage that you set. For example, if your ideal is 70% of your portfolio invested in stocks and it is currently at 71%, rebalancing may not be necessary. However, if it’s at 75% stocks, perhaps you are no longer comfortable with the increased risk. 

If you have multiple accounts, you should look at all your accounts as a whole to determine what changes need to be made to your overall investment portfolio rather than looking at each account individually.

There are two ways to rebalance:

Buy and sell assets. You sell off investments that are over-weighted in your portfolio and use that money to buy assets in other classes. 

 This may seem counterintuitive because you’re selling off asset classes that are currently doing well. However, the long-term success of your portfolio depends on keeping your asset mix (and risk level) at your preferred level. In addition, you are essentially selling high, so as long as you bought the asset for a lower price you have earned a return on that investment regardless of future movement. 

Deploy dollars to bring your asset mix back to your ideal. The idea is to invest new money in alternative categories; this allows you to adjust to your ideal asset mix without incurring the fees associated with selling off high performers. This requires either an influx of cash or patience as you reallocate your regular deposits to other assets.

Get Help

Rebalancing can be difficult and time-consuming, but it also allows you to take a deep look at your investment portfolio. If you’re looking for professional help as you manage your investments and work toward your financial goals, talk to a Farm Bureau financial advisor.