The Importance of Rebalancing

By Eric Krueger Synovus, Trust Senior Portfolio Manager

In the world of investing, achieving financial goals requires more than just picking the assets — it involves careful management and maintenance of your portfolio. One crucial strategy that often gets overlooked is portfolio rebalancing. By periodically adjusting the allocation of assets within your portfolio, investors can reap numerous benefits, including optimizing returns and managing risks effectively.

In the late 1990s I worked for a large pension fund. It was a remarkably interesting time, also known as the “dot com bubble.” I worked in the economics department, and we were in charge of asset allocation, among others things. They took an extremely disciplined approach with formal ranges for each asset class and during that time, as equities moved outside the top of their given range, they would sell and buy one or more of the underperforming classes (typically bonds) to get the allocation back into range. It was a lesson I will never forget. They did not try to “bet” on which way the market would go “knowing” the market was overvalued. They adjusted slowly over time, enjoying the gains the market provided, while not bearing the full brunt of the equity correction from 2000-2002. Buy low, sell high.

Risk Management

One of portfolio rebalancing’s primary benefits is risk management. Over time, market fluctuations can cause the allocation of assets in a portfolio to drift from its optimal targets. For example, a surge in stock prices may lead to an overweighting of equities in the portfolio, exposing it to higher levels of risk. By rebalancing, investors can realign their portfolio to maintain the desired level of risk exposure, ensuring that it remains in line with their investment objectives and risk tolerance.

Capitalize on Market Opportunities

Moreover, portfolio rebalancing enables investors to capitalize on market opportunities. Asset classes tend to perform differently under various market conditions. For instance, during periods of economic uncertainty, bonds may outperform stocks as investors seek safer assets. By rebalancing, investors can capitalize on these trends by selling overperforming assets and buying the underperforming ones, in an attempt to enhance the portfolio’s overall return potential.

Discipline

Another advantage of portfolio rebalancing is the discipline it instills. It prevents investors from succumbing to emotional decision-making during periods of market volatility. Clients often say their risk tolerance is high, but a 20% decline in stocks can shake that stance. Instead of making impulsive decisions driven by fear or greed, investors who adhere to a predetermined rebalancing strategy maintain a long-term perspective and stay focused on the investment goals.

Improved Long-Term Performance

Furthermore, portfolio rebalancing can lead to long-term performance. Studies have shown that disciplined rebalancing can enhance risk-adjusted returns by reducing portfolio volatility and increasing consistency. By periodically trimming overperforming assets and reallocating to underperforming ones, investors can buy low and sell high, a fundamental principle of smart investing that can contribute to improved long-term results.

Summary

In conclusion, portfolio rebalancing is a powerful tool for investors seeking to optimize their investment portfolios. By managing risk, capitalizing on market opportunities, instilling discipline and improving long-term performance, rebalancing ensures that investors remain on track in an attempt to achieve their financial objectives. While it requires diligence and careful monitoring, the benefits of portfolio rebalancing far outweigh the effort, making it essential for successful investing.