Portfolio Rebalancing
The process of realigning your investment portfolio back to your target asset allocation by buying and selling assets.
What You Need to Know
Rebalancing is how you maintain your desired risk level as markets move. If stocks surge and bonds lag, you might drift from 60/40 to 75/25—taking on more risk than intended.
Why Rebalance?
- Maintains your target risk level
- Forces you to "buy low, sell high"
- Prevents overexposure to hot assets
- Keeps emotions out of investing
Example:
- Target: 60% stocks, 40% bonds
- After a bull market: 70% stocks, 30% bonds
- Rebalancing: Sell 10% stocks, buy 10% bonds → back to 60/40
Rebalancing Strategies:
1. Time-Based (Calendar):
- Rebalance once per year (most common)
- Or quarterly/semi-annually
- Easy to remember, systematic
2. Threshold-Based:
- Rebalance when allocation drifts 5% or more
- More responsive to market moves
- Can reduce rebalancing frequency (lower taxes)
3. Hybrid:
- Check quarterly, but only rebalance if 5%+ drift
Tax Considerations:
- Rebalance in tax-advantaged accounts (401k, IRA) to avoid capital gains taxes
- In taxable accounts, use new contributions to rebalance instead of selling
Caution: Over-rebalancing creates unnecessary trading costs and taxes. Annual rebalancing is usually optimal.
Sources & References
This information is sourced from authoritative government and academic institutions:
- investor.gov
https://www.investor.gov/introduction-investing/investing-basics/glossary/rebalancing
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Related Terms in Investment Analysis
Appreciation
The increase in an asset's value over time, whether it's real estate, stocks, or other investments.
Asset Class
A group of investments with similar behavior, risk, and regulatory profiles (e.g., stocks, bonds, cash).
Bond
A fixed-income investment where you loan money to a government or corporation in exchange for regular interest payments.
Bond Yield
The return an investor earns on a bond, expressed as a percentage, which can be calculated as current yield (annual interest ÷ current price) or yield to maturity (total return if held until maturity).
Capital Gains Tax
Tax on profits from selling investments like stocks, bonds, or real estate.
Capital Loss
A loss realized when you sell an investment for less than you paid for it, which can offset capital gains for tax purposes.