Should I rebalance during market crashes?

Should You Rebalance During Market Crashes?

Red numbers everywhere. Your stomach drops as you watch your portfolio value shrink. The natural instinct is to either sell everything or freeze in panic. But what if the smartest move is something else entirely?

When markets are in a freefall, a disciplined strategy called rebalancing can be your best defense. The answer to whether you should rebalance during a crash is a firm yes—if you’ve done your homework first.

The Importance of Rebalancing

Think of rebalancing as a course correction for your investments. It’s the simple act of buying or selling assets to get your portfolio back to its original target mix.

Let’s say you started with a classic 60/40 split between stocks and bonds. If stocks plummet 30%, your portfolio might suddenly look more like a 50/50 split. That’s a bigger shift in risk than you might think. Rebalancing nudges you back to your 60/40 plan, keeping you aligned with your long-term goals.

Why Rebalance During Crashes?

Risk Control: Rebalancing forces you to follow the classic advice: "buy low, sell high." When stocks are down, they make up a smaller piece of your portfolio pie. To get back to your target, you sell some assets that have held their value (like bonds) and buy more stocks at a discount.
Avoiding Drift: Without a regular check-up, your portfolio can drift far from its intended path. Historical data shows a 60/40 portfolio can easily become an 80/20 portfolio over a long bull run. That's way more risk than you signed up for! Rebalancing keeps that drift in check.
Improving Returns: It might feel counterintuitive, but this discipline can pay off. Studies from firms like Vanguard have shown that rebalanced portfolios often have better risk-adjusted returns over the long haul, partly because they lose less during major downturns.

Strategies for Effective Rebalancing

Pre-Crisis Planning

The best time to plan for a market storm is when the skies are clear. Don't wait for the panic to set in.

Create a simple rebalancing plan that states exactly when and how you’ll act. This document is your anchor, removing emotion from the decision-making process when things get chaotic. Need help defining your targets? Start with our asset allocation guide.

Rebalancing Approaches

Calendar-Based Rebalancing: This is the "set it and forget it" method. You review and rebalance your portfolio on a fixed schedule, like every quarter or once a year. It’s simple and ensures you never forget.
Threshold-Based Rebalancing: This approach is more reactive. You set a trigger, for example, if any asset class drifts more than 5% from its target. When it crosses that line, you rebalance. This can be more effective in volatile markets.

Consider Liquidity and Taxes

Liquidity: Can you actually sell what you need to sell? Make sure you have enough cash or liquid assets to make rebalancing moves without being forced to sell something at a terrible time.
Taxes: Selling assets in a taxable brokerage account can trigger capital gains taxes. However, a market crash can also be an opportunity for tax-loss harvesting, which could help offset the taxes from your rebalancing gains.

Real-World Scenario

Let's make this real. Imagine your portfolio is worth $1 million, with a 60/40 stock/bond allocation ($600k in stocks, $400k in bonds).

The stock market crashes, and your stocks lose 30% of their value. Your portfolio is now worth $820,000 ($420k in stocks, $400k in bonds). Your new allocation is roughly 51% stocks and 49% bonds—far from your target.

To rebalance, you would sell about $72,000 in bonds and use that cash to buy stocks at their new, lower prices. This brings you back to your 60/40 target, positioning you perfectly for the eventual recovery. A Morningstar analysis of similar scenarios confirms this strategy cushions the blow during a downturn.

Common Mistakes and Considerations

Emotional Decisions: The hardest part is sticking to the plan when every instinct screams "sell!" Don't let fear drive your decisions. Trust the strategy you made when you were calm and rational.
Ignoring Liquidity: Don't get caught in a cash crunch. If you can't easily sell assets to buy others, your rebalancing plan won't work.
Overlooking Taxes: Always be aware of the tax implications. A surprise tax bill can eat into your returns, so plan accordingly.

Bottom Line

Rebalancing during a market crash isn't just a good idea; it's a core discipline for serious investors. It keeps your risk level where you want it and systematically positions you to benefit from a recovery.

The whole game is won before the crash even happens. Create your rebalancing plan today, decide on your triggers, and commit to the process. When the market turns, you’ll be ready to act with confidence instead of fear.