Types of Portfolio Rebalancing

Welcome to MutualFunds.com

Please help us personalize your experience and select the one that best describes you.

Your personalized experience is almost ready.

Join other Individual Investors receiving FREE personalized market updates and research. Join other Institutional Investors receiving FREE personalized market updates and research. Join other Financial Advisors receiving FREE personalized market updates and research.

Thank you!

Check your email and confirm your subscription to complete your personalized experience.

Thank you for your submission

We hope you enjoy your experience

Channels

Find the latest content and information here about the 2019 Charles Schwab Impact Conference.

Advisors

Receive email updates about fund flows, news, upcoming CE accredited webcasts from industry thought leaders and more.

Content focused on helping financial advisors build successful client relationships and grow their business.

Content geared towards helping financial advisors build better client portfolios.

Get insights on the industry trends and investment news from leading fund managers and experts.

Types of Portfolio Rebalancing

Portfolio Management Concepts
When it comes to value investing, asset allocation and portfolio rebalancing go hand in hand.

Investors rely on a portfolio rebalancing strategy to minimize risk and ensure that their target asset allocations are met. After all, if you’ve spent a considerable amount of time weighing your investment goals, risk tolerance, and timeframe, you want to ensure that these variables remain consistent throughout the market cycle. That’s where rebalancing comes into play.

As asset classes produce different returns over time, rebalancing helps investors recapture their portfolio’s original risk-return profile. Therefore, rebalancing is mostly about minimizing risk relative to asset allocation rather than maximizing overall gains.

Want to know more about portfolio rebalancing? Click here.

Types of Portfolio Rebalancing

In general, there are two types of portfolio rebalancing strategies. As you will soon see, these two types are often combined. Each strategy has its own set of pros and cons.

Periodic Rebalancing

Periodic rebalancing is the easiest way to ensure your target asset allocation remains intact. The strategy entails choosing a defined interval for rebalancing (i.e., quarterly, semi-annually, annually) and checking to see whether your asset allocation needs to be adjusted.

Ease and simplicity are the primary benefits of periodic rebalancing. Periodic rebalancing also ensures that investors can avoid something called ‘portfolio drift,’ which exposes them to higher risk relative to their target asset allocation.

The downside to not rebalancing more frequently is not tracking your target asset allocation closely enough. Research from the American Association of Individual Investors (AAII) found that portfolios that rebalance more frequently “tracked the target asset allocation more closely.”

Tolerance Band Rebalancing

Also called percentage-of-portfolio rebalancing, this strategy involves aligning your intended asset allocation based on percentages. In other words, you would rebalance the portfolio only when your asset allocation changes by a pre-specified percentage.

For example, if your target asset allocation for stocks is 50% of your portfolio and your portfolio shifts to 55%, you would re-balance to get the intended exposure back. The percentage threshold at which you rebalance must be decided beforehand.

The advantage of this method is that it gives you the opportunity to rebalance more frequently to ensure your portfolio doesn’t suffer from too much drift. The downside is higher trading costs, especially in volatile market cycles. If you are trading more frequently based on percentages, you will likely have to pay more in trading fees and commissions.

Learn about other portfolio management concepts here.

Combined Approach

Combining the above-mentioned strategies using a time-and-threshold approach allows you to monitor your portfolio on a set schedule but only requires action if your percentage allocation changes by the predetermined threshold.

The strategy is advantageous because it allows you to simplify your rebalancing schedule while benefiting from the more effective percentage threshold strategy. The downside is the same as the one mentioned for tolerance band rebalancing; namely, such portfolios incur higher costs if the rebalancing time-frame is more frequent.

The Bottom Line

For mutual fund investors, portfolio rebalancing is necessary to ensure target asset allocations are maintained. Periodic rebalancing, tolerance band rebalancing or a combination of the two are the most commonly executed strategies for ensuring asset allocations don’t deviate from your initial target.

Sign up for our free newsletter to get the latest insights on mutual funds.


Sign up for Advisor Access

Receive email updates about best performers, news, CE accredited webcasts and more.

Popular Articles

1

Expert Opinion

(Extra)Ordinary Income

Justin Lowry

|

At Global Beta, as we analyze the current whip sawing in the market,...

3

Expert Opinion

Time For A Mulligan

Justin Lowry

|

This quarter has been the worst quarter in over a decade. The S&P...

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.


Read Next

Portfolio Management Concepts

Types of Portfolio Rebalancing

When it comes to value investing, asset allocation and portfolio rebalancing go hand in hand.

Investors rely on a portfolio rebalancing strategy to minimize risk and ensure that their target asset allocations are met. After all, if you’ve spent a considerable amount of time weighing your investment goals, risk tolerance, and timeframe, you want to ensure that these variables remain consistent throughout the market cycle. That’s where rebalancing comes into play.

As asset classes produce different returns over time, rebalancing helps investors recapture their portfolio’s original risk-return profile. Therefore, rebalancing is mostly about minimizing risk relative to asset allocation rather than maximizing overall gains.

Want to know more about portfolio rebalancing? Click here.

Types of Portfolio Rebalancing

In general, there are two types of portfolio rebalancing strategies. As you will soon see, these two types are often combined. Each strategy has its own set of pros and cons.

Periodic Rebalancing

Periodic rebalancing is the easiest way to ensure your target asset allocation remains intact. The strategy entails choosing a defined interval for rebalancing (i.e., quarterly, semi-annually, annually) and checking to see whether your asset allocation needs to be adjusted.

Ease and simplicity are the primary benefits of periodic rebalancing. Periodic rebalancing also ensures that investors can avoid something called ‘portfolio drift,’ which exposes them to higher risk relative to their target asset allocation.

The downside to not rebalancing more frequently is not tracking your target asset allocation closely enough. Research from the American Association of Individual Investors (AAII) found that portfolios that rebalance more frequently “tracked the target asset allocation more closely.”

Tolerance Band Rebalancing

Also called percentage-of-portfolio rebalancing, this strategy involves aligning your intended asset allocation based on percentages. In other words, you would rebalance the portfolio only when your asset allocation changes by a pre-specified percentage.

For example, if your target asset allocation for stocks is 50% of your portfolio and your portfolio shifts to 55%, you would re-balance to get the intended exposure back. The percentage threshold at which you rebalance must be decided beforehand.

The advantage of this method is that it gives you the opportunity to rebalance more frequently to ensure your portfolio doesn’t suffer from too much drift. The downside is higher trading costs, especially in volatile market cycles. If you are trading more frequently based on percentages, you will likely have to pay more in trading fees and commissions.

Learn about other portfolio management concepts here.

Combined Approach

Combining the above-mentioned strategies using a time-and-threshold approach allows you to monitor your portfolio on a set schedule but only requires action if your percentage allocation changes by the predetermined threshold.

The strategy is advantageous because it allows you to simplify your rebalancing schedule while benefiting from the more effective percentage threshold strategy. The downside is the same as the one mentioned for tolerance band rebalancing; namely, such portfolios incur higher costs if the rebalancing time-frame is more frequent.

The Bottom Line

For mutual fund investors, portfolio rebalancing is necessary to ensure target asset allocations are maintained. Periodic rebalancing, tolerance band rebalancing or a combination of the two are the most commonly executed strategies for ensuring asset allocations don’t deviate from your initial target.

Sign up for our free newsletter to get the latest insights on mutual funds.


Sign up for Advisor Access

Receive email updates about best performers, news, CE accredited webcasts and more.

Popular Articles

1

Expert Opinion

(Extra)Ordinary Income

Justin Lowry

|

At Global Beta, as we analyze the current whip sawing in the market,...

3

Expert Opinion

Time For A Mulligan

Justin Lowry

|

This quarter has been the worst quarter in over a decade. The S&P...

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.

Why 30 trillion is invested in mutual funds book

Download our free report

Find out why $30 trillon is invested in mutual funds.


Read Next