5 ways rebalancing calms anxious investors
Joel Dresang: Marc, let’s talk about rebalancing. I know that you get concerned when investors get upset about what’s going on in the financial markets because a lot of times they have a tendency to want to do something about it. Why is it important to resist that temptation?
Marc Amateis: Joel, it’s human nature to want to act when something’s not going right, and when the stock market is dropping, when there’s a lot of volatility, a lot of investors decide they’ve just got to do something. So the act of rebalancing can allow you to do something constructive. Something that you should be doing on an annual basis, let’s say, um, but not something that’s going to be destructive to your portfolio.
You want to keep emotion out of investing. You want to invest based on facts, based on fundamentals, based on valuations, not on how you’re feeling from day to day.
Joel: You’re not talking about rebalancing your portfolio every time something happens on Wall Street, but the practice, the process of rebalancing is a good way to help investors calm down. You’ve outlined five different ways that rebalancing can help. The first one is to remind you that you actually have a plan.
Marc: Everybody should start with an investment plan. Once you have that and you put it into place, then rebalancing becomes part of that plan. And you don’t have to do it more than once, at most twice a year. But it keeps you on track with what you’re supposed to be focused on and in a very unemotional way.
Joel: The second way that the exercise of rebalancing can help calm investors is by reminding them to review their time horizon. What do you mean by that?
Marc: The different asset classes that you have in a portfolio are really meant for different timeframes. You don’t want to have money in the stock market that you’re going to need over the next 12 months. You’re taking an enormous risk. Stocks could fall. Now you’re forced to sell at the bottom, when you need the money. So the components of your portfolio:
- stocks should be five-year money or more
- bonds, less than that
- and then you should also have an amount of money that’s very safe, even if it’s not earning much, that you can access quickly, on a short notice, when you need it without worrying about it having gone down in value.
Joel: Especially when you’re talking about investing in stocks, that raises the question of risk tolerance, and that’s the third point that you make.
Marc: Exactly right. The more money you have in stocks, the more risk that you’re taking, more volatility risk. So you want to make sure that not only is the amount that you have in stock appropriate for your needs, but it’s also appropriate for your own psychological makeup. Because if you can’t sleep at night, if you’re worrying constantly about your portfolio, chances are, you have too much money in the stock market.
Joel: Rebalancing suggests that you had balance in your portfolio to begin with, so then we’re talking about reviewing your asset allocation.
Marc: That’s exactly right. You will have stocks, you’ll have bonds, and you’ll have cash instruments in your portfolio, and you want to make sure that that stays in the proportions that you initially targeted. It’s going to get out of whack over time, and rebalancing allows you to bring it back into line.
Joel: And finally you say that it’s important to look at rebalancing once in a while because it helps you to tune out the peripheral distractions and helps you focus on your own portfolio.
Marc: I think that’s a real important part of it, Joel. You need to focus on your own plan. You put it together for a reason. It’s for your own needs. Don’t worry about what your friends are doing. Don’t worry about your acquaintances. Don’t worry about what the people in the financial press or on TV or talking about. Stick to your own plan. You created it for your own reasons. Stick to that, and you’ll do fine.
When Should I …rebalance my portfolio? by Art Rothschild
When and why to rebalance, a Money Talk Video with Brian Kilb
Seeing how your equities are balanced, a Money Talk Video with Kyle Tetting
Talking Money: The importance of balance, a Money Talk Video
The case of the balanced portfolio, by Bob Landaas
Beginners Guide to Asset Allocation, Diversification and Rebalancing, from the U.S. Securities and Exchange Commission
Rebalancing Your Portfolio, from the Financial Industry Regulatory Authority
(initially posted December 12, 2018)
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