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Rebalancing 101

For those of you who have been with us through the dips over the years, this will be review. For the new comers, I need to take a few minutes and make sure that you know exactly what we’re doing and why.  This is especially relevant in months like this one following a quarter like the last one.

Rebalancing – there are two functional definitions for this investing term:

  1. Most investors think that rebalancing is what you do every few years when you meet with your advisor or 401k rep and make changes to your portfolio. The client and advisor look at the mutual funds in the portfolio and highlight the funds that did well recently; next they mark the funds that have done less well.  Then, sales are initiated of the funds that performed less well and purchases are initiated either of new funds that have won five stars from Morningstar or of other funds already owned that have done well.
  2. Another definition of rebalancing begins in the same way as above: Investor and advisor identify the two classes of “performers.”  They then sell off the gains in those sectors that have performed the best and purchase the lower priced sectors that have not performed as well.

One of these methods has investors continuously buying low and selling high, the very thing we want to do.  The other method does just the opposite.  We’ll be talking about this important investor habit at our upcoming event.  If you are not 100% sure which of these definitions fits you best, you need to become 100% sure.

DALBAR.com shows us that the AVERAGE investor achieves a lifetime investment return of between 3.8 and 4.2%.  Frustratingly this is also close to the average of inflation.  In other words, over the past 50 years, the portfolio of the average investor has barely kept up with the drop in the value of the dollar.

The right kind of rebalancing is a key strategy for avoiding these results.