Investment Portfolio Rebalancing

  • All investment portfolios should have an investment policy that includes asset allocation target percentages and allowable ranges around those targets.
  • All rebalancing methods involve marginal selling of out-performing assets and re-deploying into under-performing investments.
  • Age-old questions: When do we rebalance and how much?
    • Q: How often should we rebalance?
      A: Typical approaches:
      “calendar method” (every month, quarter or year, etc.);
      “out-of-balance method” (when assets reach a fixed % from targets);
      “seat-of-pants method” (general sense of current market conditions).
    • Q: Should we always rebalance to the targets?
      A: Yes, if you have no source of information to assist in a different decision;
      No, if you have a system to determine over and under weights.

What We Know About Financial Markets

  • Asset allocation has more impact on total return than any other aspect of investment policy.
  • A portfolio’s allocation to equities is the one choice that has the highest impact of any decision on investment results.
  • Bull Markets in equities are relatively steady, long lasting, and hence create an “upwardly biased” long term pattern.
  • Bear Markets are sudden and sharp, but comparatively brief.
  • Equity markets exhibit a “Central Tendency” that may be unpredictable in the short run,
    but ‘revert’ to their mean of a 10 – 12% return per year over time.
  • Asset allocation shifts “at the edges” can have very significant impact over time.

Why Dynamic Rebalancing?

  • By rebalancing based on the ‘calendar’, investors are unable to take advantage of longer running bull markets.
  • By rebalancing when an investment is ‘out of balance’, investors may lose their chance to take profits
    or take advantage of extraordinary investment opportunities.
  • Dynamic Rebalancing uses markets cycles to tell us:
    • When to Rebalance: use the momentum of the markets to capture larger returns as the market moves between bull and bear phases
    • How much to Rebalance: use the strength of market moves to enhance the probability of achieving greater returns than “target-only” rebalancing
    • Dynamic Rebalancing allows us to act (at the margins) on asset class-specific trend signals.

How Dynamic Rebalancing Works

  • Research finding: Monthly measurement of trending is more effective than quarterly
  • Signal source: Generated from comparison of current market conditions with historical monthly return patterns
  • Low frequency: Designed to react only to “outlier signals” which deliver more effective action; most months, there are no changes.
  • Client-specific: Actions are constrained within an investment portfolio’s policy allocation target ranges.
  • Wealth accumulation result: System is designed to deliver improved efficiency “at the margins.”

 See Dynamic Rebalancing in Action

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Past performance provides no assurance of future returns