This post is a preview of WorthPointe’s e-book Evidence-Based Investing: Separating Fact From Fiction, written by Certified Financial Planner™ Scott O’Brien. In Evidence-Based Investing, Scott discusses the myths and misinformation that most often slow or halt our financial goals. Get your complimentary copy of Evidence-Based Investing here.
Rebalancing helps you maintain your preferred risk level and loss tolerance. Remember when we talked about that in the chapter on allocation? Once you determine your allocation, the next challenge is to stick to that plan.
If you determined that the ideal portfolio target allocation is 55% stocks, 40% bonds and 5% real estate, you don’t want your portfolio to move too far from this. Your target allocation should have been primarily determined by your loss tolerance, so if your portfolio allocation drifts too far off target, you start assuming more risk than you intended or vice versa.
Occasionally, you must get rid of some of the high performers and nourish the low performers for growth to happen while maintaining your loss tolerance.
If your target allocation is 60% stocks and 40% bonds and the stock market is doing well, then perhaps your portfolio changes with the increased growth in the stocks so stocks now make up 70% of your portfolio and the safer bonds make up only 30%.
There is no doubt that the increased value of your portfolio pleases you. However, you’re now in a position of higher risk if the stock market uptrend should reverse. So, if you want to minimize your risk, you want to lock in some of your gains and reduce your stock investments back to your original target allocation of 60%.
In the opposite scenario…
Let’s say you’re 60% stock and 40% bond allocation has changed due to the stock market suffering a period of negative returns (like happened in 2008).
Now your portfolio is 50% stocks and 50% bonds. Your risk has lowered considerably, but you have more loss tolerance than your current allocation was aiming for. All you have to do is readjust your portfolio back to its original target allocation by selling some of the bonds and buying more stocks — and you buy them while they’re cheaper.
In essence, rebalancing is a methodical way of selling high and buying low — exactly what you want to be doing!
Read the rest in Evidence-Based Investing. Get Your Complete Copy of the Book Now.
Other articles filed under Austin CFP Team Posts
April 9, 2019 - We are so happy to see WorthPointe on AdvisorHQ’s Top Financial Advisors in Austin, Texas, to partner with in 2019. As examined in the article on the Advisor HQ Website, we know it’s difficult to know where to start when...
March 27, 2019 - We are pleased to announce that Brooks Morgan was recently made a partner at WorthPointe. Brooks began his WorthPointe journey in 2011, while still a student at the University of Texas, studying finance and business administration at the Red McComb...
February 28, 2019 - Every year, the Austin Business Journal publishes its annual Book of Lists. This downloadable document or print book — both available for purchase — lists the “hottest area companies in their field” based on ranking criteria specified by field. In...
January 30, 2019 - This was the year the long, seemingly endless bull market came to a crashing halt — and U.S. investors finally, for the first time since 2008, experienced the normal definition of a bear market (down 20% from the S&P 500's...
January 23, 2019 - You’ve probably heard from the do-it-yourselfer at your office. “I just invest in the funds with the best performance.” But is this a reasonable? Though a book could be written citing numerous academic studies to address the validity of this...
- What Attracted our Advisors to WorthPointe?
- 2018 Year-End Investment Market Report