What are the Benefits of Portfolio Rebalancing?

By Harvey Investment Management on July 3, 2019

Portfolio rebalancing is an important concept for investors to understand. At its core, rebalancing involves buying and selling securities. You or your investment manager will either sell a given security if you feel the price has grown too inflated or buy into a security that has become more affordable in order to maintain an overall balance in your portfolio. By maintaining a balanced investment portfolio, you can lower your overall risk. However, it is also important to understand that you need to take a prudent approach, as rebalancing can create tax consequences and transaction costs that might reduce your overall returns.

Many brokers take a traditional approach to managing portfolios and decide at the outset that their client would benefit from a certain split or asset allocation between stocks and bonds. They then periodically check the portfolio performance and rebalance it as necessary to maintain those percentages. Sometimes, the broker sets up systems, known in the industry as “guard rails” or “circuit breakers,” which are triggered by certain events and cause an automatic portfolio rebalance to those pre-determined percentages. Overall, this is a very passive, hands-off investing approach. (For more information about the differences between active and passive investing, see our post “Active vs. Passive Investing: Finding the Sweet Spot”.)

We at Harvey Investment Management, Inc. tend to take a different view of portfolio rebalancing. While we see the value and diligence in working from a set schedule, we also base our rebalancing decisions on other long-term trends in the marketplace. We rank the securities within both our investment universe and our strategy components in order to attain the proper balance.

The long-term negative indicator we monitor is commonly referred to as “the canary in the coal mine.” Most of us are familiar with the story of the coal miners sending a canary into the mines to determine if the air was safe to breathe. If the canary came back up alive, they knew it was safe to continue into the mines; if it did not, then they did not go into the mines themselves. If one of our “canary” indicators is failing – regardless of the schedule – we will rebalance our clients’ portfolios to help reduce their risk.

What we have found, over time, is that if we follow this disciplined hybrid approach of using both a set rebalancing schedule as well as actively monitoring long-term trends, we are able to make changes as needed. Taking a snapshot of the portfolios and then comparing them with the underlying model shows us whether changes are necessary. Using this approach helps remove most of the emotional components of investment decision-making, which often include rash and fear-based moves than can cause unforeseen financial damages. We believe that portfolio rebalancing, when done right, can be an invaluable tool.

About Harvey Investment Management, Inc.

Harvey Investment Management, Inc. provides information designed to help our clients achieve their financial goals. We aim to empower and support investors no matter where they are in their financial journey. Reading this blog may be the first step of many you take, and we encourage you to ask questions along the way. We invite you to learn more about our team and how we can help you reach your financial goals by emailing or calling us at 719.960.0970.

Brad Harvey, President and CEO of Harvey Investment Management, Inc.