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How you can benefit from rebalancing your investment portfolio

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Written by: Nandini Ramakrishnan
27/06/2017
It’s considered best practice to rebalance your investment portfolio at least once a year. Here’s why rebalancing is important, how you can do it and what's involved.

What is rebalancing?

Rebalancing is the process of periodically adjusting the weightings of a portfolio by buying or selling assets. Active rebalancing is particularly important when large price moves affect the assets in a portfolio. Changing or maintaining the weights will help maintain the original asset allocation. This applies regardless of asset allocation, whether the target allocation is 50/50, 70/30 or any other composition.

Let’s say you want to have a moderate asset allocation consisting of 60% stocks and 40% bonds. Over the next six months, the equity market rallies, but the bond market weakens. At the six-month mark, you have 66% stocks and 34% bonds, because your stocks have been more profitable than your bonds in this example. To rebalance, you would sell 6% of your stocks and buy 6% in bonds to bring your allocation back to 60/40.

Why should you rebalance?

Different investors have different profiles, and each individual investor will also have a different risk appetite and return objectives over their lifetime. Many investors prefer to invest more aggressively at younger ages and more conservatively, or with an income-orientated approach, as they near retirement age.

Rebalancing gives investors the opportunity to sell high and buy low. This allows an investor to benefit from the gains from high-performing assets and reinvest them in areas that have not yet seen the same high growth.

Let’s say an investor begins the year with a 20% allocation to European equities and over the course of the year, European equities significantly outperform other asset classes and grow to 30% of the portfolio. This means the other assets in the portfolio have reduced in weight, thus representing a different underweight and overweight blend to the other regions and assets. Selling those gains in European equities and buying other assets that are even cheaper given the outperformance from Europe.

How do you rebalance?

You can either do it yourself, by buying or selling individual holdings. The alternative is to get an expert to do it for you, as might happen in a multi-asset or multi sector fund.

When should you rebalance?

There is no required schedule for rebalancing a portfolio, but best practice generally suggests examining allocations at least once a year. It is possible to go without rebalancing a portfolio for longer, but that puts the portfolio at risk of straying farther away from the intended weightings.

Nandini Ramakrishnan is a global market strategist at JPMorgan Asset Management

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