What is Portfolio Rebalancing and How To Do It

Portfolio rebalancing is an important part of any portfolio management process.

It allows you to react to changes in asset prices to buy and sell the necessary investments to stick to your long-term asset allocation.

What is Portfolio Rebalancing and How To Do It

In this article, you’ll learn everything you need to know about portfolio rebalancing. You will also learn about choosing the right portfolio management tool to keep you on track for the long-term. 

What Is Portfolio Rebalancing?

Portfolio rebalancing is the process of selling your best-performing investments to buy more of your poorly-performing investments. This allows you to stay close to your long-term target asset allocation.

An example is helpful in understanding this. Consider an investor who wants a long-term asset allocation of 40% bonds and 60% stocks.

Last year, they invested $6000 in the stock market and $4000 in the bond market. Their portfolio was perfectly-aligned with their long-term asset allocation.

Over the last year, however, these two asset classes had very different performances (which is normal). More specifically, if the investor’s stock portfolio increased in value by 10% but its bond portfolio only increase in value by 4%, here’s what the new values would look like:

  • Stocks: $6600
  • Bonds: $4160

On a total portfolio basis, here’s what the investor’s new allocations looks like:

  • Stocks: 61.3%
  • Bonds: 38.6%

As you can see, the portfolio has drifted from its target allocation.

It’s not easy to see exactly which trades you’d need to make to rebalance your portfolio. Moreover, the complexity of calculating the necessary trades to rebalance becomes even more severe as you add more and more asset classes.

Because of this, the techniques used to perform portfolio rebalancing can be quite complex. We will discuss them in the next section.

How to Perform Portfolio Rebalancing

There are a number of factors that you need to consider when building your portfolio rebalancing strategy.

First of all, you need to determine how frequently you’d like to rebalance. Many investors and investment funds rebalance quarterly, while others chose monthly, semiannual, or annual rebalancing schedules.

Another factor that you need to consider is the required portfolio drift before you’ll execute a trade. It may not make sense to incur the transaction costs and implied taxes associated with a rebalancing trade if your portfolio is only off target by 1%. 

How to Perform Portfolio Rebalancing

Lastly, you will need a tool to calculate your recommended trades. There’s a number of free tools out there that do this, but they generally are a mess of Excel files that don’t store the long-term state of your portfolio. You need to update the fields in these types of rebalancing tools every time you make a trade!

We built Passiv to solve this problem. Passiv connects directly to your brokerage account and allows you to set a target allocation of securities in your portfolio. 

When your portfolio drifts away from its target allocations, Passiv automatically recognizes this and sends you an email with recommended trades to get you back on track.

Problems To Avoid in Portfolio Rebalancing

Although portfolio rebalancing is unquestionably a good investment practice, there are also wrong ways to do it. This section will discuss mistakes to avoid when implementing portfolio rebalancing in your portfolio. 

The first (and arguably most important) mistake to avoid is selectively rebalancing your portfolio in response to market movements. Said differently, you should not make long-term investment decisions based on short-term emotions triggered by price movements in the financial markets.

We’ve seen examples of this recently. The COVID-19 pandemic that has gripped the world for much of the year saw the stock market plunge and quickly rebound. 

Problems To Avoid in Portfolio Rebalancing

Unfortunately, many investors made the absolute worst choice by selling all of their stocks. Accordingly to the Wall Street Journal, “Nearly a third of investors ages 65 and up sold all of their stockholdings sometime between February and May, compared with 18% of investors across all age groups.” 

To avoid this problem, you should stick to the same rebalancing plan regardless of what’s going on in the market.

Final Thoughts

Portfolio rebalancing is a highly important but rarely discussed aspect of investing. 

In this article, you learned the basic principles of portfolio rebalancing and how to properly use tools to rebalance your portfolio moving forward. You were also exposed to the main portfolio rebalancing mistakes made by people today.

We hope that this guide proves helpful in rebalancing your portfolio moving forward.

This is a guest contribution from Brendan Lee Young of Passiv, a portfolio rebalancing company that allows you to receive email notifications when your portfolio drifts from its target allocation. Passiv’s emails prompt you to make one-click trades, which allows you to stay on track for a healthy financial future.


Disclaimer: All the information above is not a recommendation for or against any investment vehicle or money management strategy. It should not be construed as advice and each individual that invests needs to take up any decision with the utmost care and diligence. Please seek the advice of a competent business professional before making any financial decision.

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