How Often Should You Rebalance Your Portfolio?

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What Are Your Preferences and Orientations?

There’s many answers to the question: How often should you rebalance your portfolio? If you ask asset manager Renaissance Technologies, their answer would be often—perhaps even more than once-a-day. If you ask the Baupost Group, a long-only Boston-based investment manager, they might tell you they rebalance about once a year. Both of the aforementioned companies are legendary stock pickers with regard to their long-term performance.

It’s possible to achieve extraordinary risk-adjusted performance using both ends of the portfolio rebalancing orientations. The long-only orientation, that might rebalance once-a-year. And the other end of the spectrum, short-only, more than once-daily. Both have their advantages and disadvantages. let’s explore what the right answer to the question is for you: How often should I rebalance my portfolio?

Is Portfolio Rebalancing In Your, or Your Advisor’s Best Interest?

Oftentimes, investment managers at the outset of an investment program predetermine an asset allocation based on a client’s preferences. A portfolio of 50% bonds and 50% stocks is a common recommendation. If the portfolio changes its proportions too much, the asset manager rebalances the portfolio, and charges a rebalancing fee.

Investment professionals generally generate their revenues and income in two possible ways. Through a small management fee and rebalancing fees. Or, as in the case of hedge funds, a small management fee plus a share from profits generated above a certain threshold. Generally, when investor and manager interests are aligned, it incentivizes the manager to care about long-term performance, and risk. The fee structure is a main reason that top-performing hedge funds have outperformed the top-performing mutual funds over time.

Rather than paying for continuous portfolio rebalancing fees, and a lack of a performance incentive, there may be a better choice. Paying a manager a performance fee only when investments meet a very high-bar-standard can supercharge your investments. It’s the way that the top performing hedge funds have delivered market-beating returns for decades to their wealthy investors. Splitting profits with investment managers is a way to incentivize them to focus on delivering high, risk-adjusted returns. It has worked well for top performing hedge funds and stand-alone investment managers, it may work well for you.

It is the investors’ choice whether to select a management fee and rebalancing fees structure, or to select a management fee plus profit split incentive structure.

When Should you Rebalance Your Portfolio?

According to investing legend Warren Buffett, “selling a stock simply because it has declined in price is a terrible reason for selling a stock.”

Portfolio rebalancing is a decision that is dependent on its holder’s needs, goals, and preferences. If its holder is planning on using the proceeds to transact a real estate transaction, it’s a necessity. Sometimes the portfolio owner likes and prefers to rebalance often, its just the way they like to do things and enjoy the process of coming into their investment manager’s office for a meeting to discuss the rebalancing. At other times the investor doesn’t have any particular needs and they seek excellent risk-adjusted portfolio performance.

The question of when to rebalance your portfolio really depends on the investor. If risk-adjusted performance is a goal, then it is possible to achieve it through both ends of the portfolio rebalancing spectrum. On one side with very high buying and selling activity turnover as exemplified by Renaissance Technologies. And on the other side of the spectrum with very low-turnover (less than once a year) by Winvest.

The Advantages of Portfolio Rebalancing For Long-Term Investors

The advantages of portfolio rebalancing infrequently are numerous. Infrequent portfolio rebalancing tends to beneficial those in the long-run.

Over the ups and downs in the financial markets it has benefitted tremendously those who are mostly inactive. According to CNBC a $10,000 investment in the stock market in 1942 (equivalent to $154,053 in 2018 dollars) would be worth more than $51,000,000 in 2018 with zero portfolio rebalancing.

Saved rebalancing fees are additional benefit, and side effect of limited portfolio rebalancing. Typically, when a portfolio manager rebalances their portfolio, they charge them a fee. Rather than generating fees through shared profits, separately managed account (SMA) portfolio managers largely generate their income from rebalancing fees, not profit sharing.

The lack of profit sharing with their investors has been characterized as a conflict of interest because there is no incentive for the SMA portfolio manager to deliver high risk-adjusted returns to their clients. Only to maximize portfolio turnover and not consider performance, nor risk.

Click here to see Winvest’s investments, evidence of the advantages of limited portfolio rebalancing.

How To Rebalance Your Portfolio

How does portfolio rebalancing work? Essentially the owner of the portfolio or their designated representative makes changes to the holdings in the portfolio. The portfolio manager buys and/or sells stock or bond holdings to adjust the proportion of ownership.

A portfolio designed to have 50% stock and 50% in stock options will see its proportions change as valuations fluctuate. An increase in the price of volatile stock options can put a portfolio set to be 50/50, easily become 10/90. As the price of options can grow (or decline) by large amounts.

A market, or limit order for the sale of the shares must be submitted to the stock brokerage. Dollar amounts must be calculated to determine how much is needed to sell to bring the portfolio back to 50/50. This is where the client holds their assets and names such as Fidelity or Td Ameritrade may come to mind.

Why is Balancing and Rebalancing a Portfolio So Important?

When first designing and funding a portfolio, you may set your portfolio to be 75% stocks, and 25% corporate AAA rated bonds. Over time as individual investments fluctuate or bonds values fall, the portfolio’s proportions can change dramatically. This can occur during market crises such as those in 2000, 2008, or at any point in a sideways-moving market. Balancing and rebalancing a portfolio is important because as proportions change, your original asset allocation preferences are no longer met.

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