What Is Rebalancing?

The best way to understand what rebalancing is through an example. Let’s imagine someone’s been in their working career for, 5-10 years. Let’s call him John. John has his income and starts to have some excess cash flow, he starts to save, and eventually he wants to start investing.

Well, one of the first things that you should always do is figure out how much risk you want to take, so that’s what John does. What that means is how much of your portfolio do you want to allocate towards stocks and how much do you want to allocate towards bonds?

Assess Risks

John figures out that he wants to put 70% in stocks and 30% in bonds. Traditionally stocks are a higher risk asset that’s slightly more volatile compared to bonds. It’s a little more stable, a little less volatile. So now, he’s at 70/30, and imagine, he puts cruise control on. He just sets it and forgets about it for the next five, to 10 years.

Let’s think of an environment where stocks do really well. That 70% then grows to 80 and then 90%. And that 30% goes to 20 and then 10. Well, now John’s taking a lot more risk than he originally wanted to.

Rebalancing

Let’s assume the worst, and say that John experiences a correction in the market and because he’s taking more risk than he wants, he moves to cash and sells. That’s the worst thing that he can do, and ideally rebalancing prevents that from happening. Here’s how it works.

Imagine that 90%, it gets to 90/10. What you’re doing is you’re selling high to get back down to that 70%. You’re buying low to get back up to that 30%. That helps maintain the level of risk that John’s comfortable with. That’s why it’s so important to rebalance.

Staying Invested

If investors are comfortable with the level of risk they’re taking, they’re probably going to stay invested. Staying invested is one of the most important things that you can do.

The good news is if you’re a client of Wealthquest, you’ve already taken care of this. This is something that we take care of for you. It’s not necessarily something that we do quarterly or monthly. We don’t have a set rhythm, but we do it opportunistically.

If you have questions about rebalancing your portfolio, schedule a conversation with us.

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