Why Rebalancing Your Investment Allocation is Important

Many people have heard that a balanced portfolio is a key to investing success. But very few people actually know what it means to have a “balanced” portfolio - let alone what rebalancing looks like. One way to ensure a balanced portfolio is to look at your asset allocation.

What is Asset Allocation?Asset allocation is the process of divvying up your investment portfolio across multiple asset categories. Typically, this means you’re invested in several of the following:

• Stocks (Equities)
• Bonds (Fixed income)
• Cash
• Money market instruments
• Real estate
• Commodities

What types of assets your portfolio contains will largely depend on your time horizon (or how long you have until you’ll need the funds from your investments to make a large purchase or to retire), and your risk tolerance. There’s no “perfect” formula for asset allocation - it’s different for every individual investor and their unique financial goals and needs. However, most people will organize their asset allocation based on their retirement timeline. In general, the further away from retirement you are, the more likely it is that you can take on “riskier” investments. As you get closer to retirement, you rebalance your portfolio to avoid risk, as you’ll need those funds sooner rather than later.

How Do You Rebalance?Finding the “right” balance in your portfolio is no easy task. Truth be told, there likely isn’t one ideal allocation formula for your assets. The way you’ve allocated your assets is going to change over time as your risk tolerance and investment timeline shifts. This is where rebalancing your portfolio can come in handy.

No investment strategy is ever set in stone. Rebalancing your portfolio periodically can help you to ensure that no one asset class is notably outweighing another. As your portfolio evolves, your investments are going to grow at different rates. Before long, you may have over-weighted asset categories taking up a lot of space in your portfolio, which could put you at unnecessary risk.

When you rebalance, you’re looking to accomplish a few things:

1. Diversifying your portfolio in a way that puts you on track to reach your financial goals.
2. Balancing the investments in your portfolio to make sure you’re taking on the right amount of risk based on your investment timeline.

To rebalance your portfolio, you follow three easy steps:

1. Review your “ideal” asset allocation and make any adjustments necessary based on your current risk tolerance and risk capacity.
2. Check to see what your portfolio’s current asset allocation is.
3. Buy or sell shares as necessary to “rebalance” your portfolio to the desired baseline.

Keep in mind that your “ideal” asset allocation is based both on your timeline (i.e. how long until you have to retire, or how long until you’ll need the funds from your investments), and how much risk you can emotionally take on. If you’re finding that taking on “riskier” investments is making you sick to your stomach and that you’re constantly having to remind yourself to avoid making a rushed decision based on a market correction, you might be better suited to a more conservative asset allocation - even if you have many years before you need the money from your portfolio for retirement.

And that’s okay! Arranging your portfolio in a way that won’t drive you crazy is just as important as lining up your investment timelines.

How Often Should You Rebalance?Rebalancing your portfolio should be an annual to do - don’t try to do it more often than that! Unless you need your investments in a very short period of time and are watching the market like a hawk before you start to withdraw, you shouldn’t be constantly adjusting your asset allocation. If you are, you’re less likely to reap the benefits of long-term investing strategies.

Don’t DIYAsset allocation is incredibly important as you move toward retirement. If you let your assets go unbalanced for too long, they could end up hurting your portfolio, and sending you off-course and away from your financial goals. If you balance them too often because you’re worried about “timing” the market, you could have an equally adverse effect on your portfolio’s potential growth. Your best bet is going to be working with a financial planner who can help you automate your portfolio rebalancing and keep you on track to meet your retirement goals. Want to learn more? Schedule your consultation with Wisely Advised today!

​Tony Velasquez runs Wisely Advised, LLC a full-service Registered Investment Advisory Firm offering Financial Planning, Accounting and Investment Advisory services to individuals, families, and businesses. 
 
Whether it's traveling, being at the beach, or at his family's ranch in Texas, Tony loves enjoying time with his family and friends. ​​​