Not reorganizing your portfolio regularly can increase the risk. Getty Images
Investors start the year with new financial resolutions – this also includes taking a close look at their own portfolio.
If you don’t rebalance your portfolio regularly, you may be increasing your risk.
Rebalancing your portfolio also ensures profit-taking.
Taking more care of your own finances is a resolution that people make in the new year. For investors, this often means reallocating their own portfolio and carrying out a so-called rebalancing.
Why? When opening a portfolio, investors consider a strategy that reflects their own willingness to take risks. They determine how much of their assets they want to invest in stocks, bonds or other asset classes. Due to the ups and downs on the stock market, it can happen that some investments suddenly have a higher weight than planned. As a result, the risk profile no longer fits after a while.
Why no rebalancing can mean more risk
Example: Let’s assume you have decided to invest 60 percent of your capital in stocks and 40 percent in bonds. To do this, you have divided your money into suitable ETFs or funds.
Due to fluctuations in the markets, after a certain period of time the ratio between stocks and bonds is no longer what it was immediately after the purchase. Bonds did not budge over the course of the year, but stocks rose by 20 percent. This means that the share of stocks in the portfolio has increased accordingly, while the share of bonds has decreased.
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Something crucial has happened: your risk in the portfolio has increased. Because you have increased the share share without actively intervening. To restore your previous balance, you would have to sell shares of stocks and purchase bonds.
Rebalancing also has the effect of allowing you to take profits. Because you are parting with part of the winning shares – they are reduced back to the original share through your sales.
At the same time, you buy the stocks that have fallen short of expectations and that have performed worse than the other stocks and offer potential. It may sound absurd to sell winners and take losers into your portfolio, but it serves to maintain your risk profile and thus invest countercyclically.
How often should you reorganize your portfolio?
There is no hard and fast rule as to how often you should restructure your portfolio, as no two stock market years are the same. The Analysehaus Morningstar For example, created six sample portfolios with a start date of December 31, 2016 and an end date of July 21, 2022. These each consisted of 60 percent stocks and 40 percent bonds.
The result: Investors who did not rebalance suffered the largest losses in the middle of 2022, with a loss of 12.4 percent. On the other hand, investors who performed daily rebalancing performed best, recording a loss of 11.2 percent.
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According to analysts at Morningstar, the reason for these results is that the buy-and-hold portfolio has had an increasing share of equities over time, thanks to the generally good returns in the stock markets. By the end of 2021, the portfolio’s equity position had increased to more than 74 percent of assets. This meant that the portfolio was more exposed to the downward trend in the first six months of 2022. Rebalancing can sometimes be more or less worthwhile. However, experts recommend adjusting the portfolio about once a year.
Also note: Every rebalancing costs money and depending on the broker you pay different fees for your transactions. You should also think about taxes. Because when you reallocate your ETFs, you sell securities. The resulting capital gains are taxable.
Disclaimer: Stocks and other investments generally involve risk. A total loss of the capital invested cannot be ruled out. The articles, data and forecasts published are not a solicitation to buy or sell securities or rights. They also do not replace professional advice.