The market value and risk associated with the assets and securities in your portfolio can change over time, often drastically as the result of macroeconomic changes.
Eventually, even the most finely balanced portfolio will need a “tune-up” at some point. Here are eight steps to help you rebalance your portfolio and keep it aligned with your risk tolerance and long-term financial goals.
Maintain historical records
Whenever you buy a stock or invest in any asset, keep a record of its total cost at the time of purchase.
Don’t forget to record the total cost of your portfolio at that point in time. The data you store will serve as a baseline for all your future calculations.
Set a date for portfolio review
Depending on your financial activities and time availability, you can pick either a quarterly review or an annual review at the end of the financial year.
Be prepared to conduct impromptu reviews during sudden market instability, or drastic changes in your financial situation.
Look for major changes in valuations
During your review, find the current total value of your portfolio. Take the current value of each security and divide it by the total value of the portfolio to find the weight of each security.
Compare these numbers with your baseline numbers and check if there are any major changes.
Sell high performing assets
Consider a situation where the weight of a particular asset class – say stocks – has increased by 10%.
This might be a good time to sell some of those high-flying stocks on a discount, and use the money to invest in some other promising asset class to diversify and spread your risk.
Buy asset classes that are under weighted
After selling the over-weighted assets, invest the proceeds from the sales in asset classes whose allocations have fallen below your desired levels.
Either you should buy more of some asset you already own, or pick a better option from the same class, based on current market conditions.
Reduce your tax burden
Selling high-performing investments will mean capital gains taxes on your profits.
To reduce taxes, continue holding the over-weighted assets or sell only those that are held in a tax-deferred retirement account.
Be mindful of the transaction fees
Many ETFs, stocks, and mutual funds come saddled with transaction fees or surrender charges. Always keep these fees in mind while considering a rebalance transaction.
If any of the assets in your portfolio have exorbitantly high fees, consider offloading them at the first chance. And try to avoid buying such funds in the future.
Try to rebalance with new money
If you gain a windfall of money you want to pour into your portfolio, route the funds into asset classes that are under-weighted.
For example, if your bond allocation has fallen below your target threshold, buy more bonds to better balance your portfolio. If the money is coming from your salary deferrals to a 401(k) redirect them to under-weighted classes for a few months.
