It’s a lot more fun to talk about rebalancing your portfolio when it’s out of whack because the market has gone up.
But this year, both stocks
are down about the same amount, and there’s lots of volatility, so you might not need to heed those frantic last-minute reminders about resetting your allocations in a rush at the end of December. You can instead focus on a full financial reset and plan for next year.
“This year, for me personally, was a year when I didn’t take it so strictly,” says Beata Dragovics, a certified financial planner and founder of Freedom Trail Financial based in Boston.
Most investors don’t need to think about rebalancing more than once a year, according to recent research from Vanguard.
“You have to be mindful of how much it costs. Even if there’s no brokerage fee, there’s still a cost to each transaction. At the very least, the cost to sell and buy are not exactly the same,” says Nathan Zahm, head of goal-based investing research for Vanguard.
When is the best time to rebalance?
The best end-of-year time to rebalance is early December, says Amy Miller, a financial planner at Wealthspire, based in Hartford, Conn., but only in the sense that you might have mutual fund gains you’d rather avoid for tax purposes.
At the beginning of December, many mutual fund companies announce what their capital gain distribution percentages will be, and then you get the money later in the month. “If you know you’re going to reduce a mutual fund position, you’ll want to do it before that capital gain,” says Miller.
Beth Lynch, a financial adviser for Fort Pitt Capital Group in Pittsburgh, also says early December is good for knowing what your overall tax ramifications will be overall with capital gains. But she also says June is equally good for just an overall assessment of your portfolio on a calendar basis. Or January, too.
The most important thing is not when, but that you do it at all. “Make a note to look at your portfolio at a date every year. Anything longer than a year lets it slide too far. Anything more often than once a year and you incur so much transaction cost that it’s likely not worth it,” says Zahm.
You can also take a strategic threshold approach to rebalancing, rather than looking at the calendar, and adjust your holdings when there are swings of 5% or more. A perfect time to rebalance would have been March 2020 for instance, says Miller. This approach takes a lot more awareness, both of the overall market and your holdings.
How you actually rebalance
The process of rebalancing sounds deceptively simple — you sell the positions that are too high and buy the positions that are too low. For instance, if stocks are down this year a little more than bonds and you are aiming for a 70/30 allocation of stocks to bonds, then you might be somewhere closer to 65/35 at this point. Or you might have drifted because of dividend reinvestment or because yield built up in cash. So you’d sell some bonds and buy some stocks.
But that supposes that the investor has a known target allocation and an easy way of measuring how their total portfolio is stacking up. Real life is a lot messier than that for most people.
Coming up with a number on your own doesn’t have to be too complicated, and it doesn’t have to be expressed in big round numbers like 60/40 or 70/30. You can figure out the right mix for you with an online risk tolerance questionnaire or use a general rule like subtract your age from 100 to figure out your stock allocation. “It doesn’t need to be exact exact either,” says David Haas, a financial adviser and president of Cereus Financial Advisors, based in Franklin Lakes, N.J.
Once you set that plan, don’t change it until something life-altering happens, like you get married or retire. When you change things too much, “that’s when individuals tend to underperform,” says Lynch.
A pro tip from Zahm about setting your target allocation goal: “Write it down when you’re not in a stressed state, and trust it.”
Assessing your progress is a bit harder. Even advisers have a hard time keeping up with all the different holdings that their clients have. A person might have a conservative strategy for a 401(k), a more aggressive approach to a Roth IRA and a speculative approach to a taxable brokerage account.
“Sometimes it’s hard to track unless you’re really good at spreadsheets, ” says Lynch.
If you can handle further complicating matters, you should also be rebalancing not just a stock-to-bond ratio but also among asset classes. “You should ask how much should I have in small- and mid-cap equities, and how much in international,” says Lynch.
One way to get around this is to auto-rebalance when you can, a feature that’s common in many 401(k)s. Then you can focus your attention more on your other accounts, and use aggregating software to see your whole portfolio at once, which is offered by many brokerages and banks.
Tax reasons to act sooner
The rush to act before the end of the year might be worth it for a small number of people who are juggling to minimize taxes this year — and they or their financial adviser haven’t already taken care of things. These would be people who have a significant amount of investment gains they want to offset with losses, or they’re over 72 and taking a large required minimum distribution (RMD) right before the Dec. 31 deadline. Taking big swings on those could upend portfolio allocations and cause you to take a second look.
“It’s fairly difficult,” says Haas. “What do financial advisers do to earn our money? Tax-loss harvesting, rebalancing, keeping clients invested in the portfolios they’re supposed to be in.”
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