Rebalancing Your Investments: A Smart Habit for Long-Term Retirement Growth
Rebalancing: How and Why You Should Keep Your Portfolio on Track
If you’re managing your own 401(k) or other investments, you’ve probably heard the word “rebalancing” but might not fully understand why it matters or how to do it. Rebalancing is simply the process of realigning your portfolio back to your ideal mix of investments—and it’s one of the best ways to manage risk and stay on course toward your retirement goals.
What Does Rebalancing Mean?
Imagine you started with a portfolio that’s 60% stocks and 40% bonds because that mix fits your comfort with risk and time horizon. The return from stocks is generally higher than from bonds, but so is the downside when markets turn rocky. Over time, if all you do is buy and hold, your stocks might grow to 80% or more of your portfolio’s value. That sounds great, but it means that you have unintentionally become exposed to a larger loss than you expect. Rebalancing means selling some of those stocks and buying bonds to bring your portfolio back to 60/40. This simple step helps keep your risk steady and your goals in focus.
Why Rebalance? Managing Risk and Staying Disciplined
The main benefit is managing risk. Without rebalancing, your portfolio can slowly shift away from the risk you’re comfortable with—sometimes exposing you to much more risk than you meant to take. It also forces a healthy investing habit: selling what’s grown too much and buying what’s underrepresented, basically buying low and selling high. That discipline can improve your returns over time.
How Often Should You Rebalance?
There are two common approaches:
- Scheduled Rebalancing: Many investors rebalance once a year or once a quarter. This is straightforward and helps ensure you don’t get too far off track. This approach also encourages discipline, which can enhance long-term results.
- Threshold / Opportunistic Rebalancing: Instead of sticking to a calendar, you rebalance only when your portfolio’s allocations drift beyond a certain threshold. This method helps avoid unnecessary trades and can take advantage of market movements.
What's The Best Rebalancing Strategy?
Scheduled rebalancing done once a year has been shown to potentially add an average 0.26% annually to your returns[2]. Not bad for a simple annual tuneup. But investors who wish to improve their returns further and are either willing to do the work themselves or hire an advisor should consider opportunistic rebalancing. While scheduled rebalancing restores each position to the set allocation each time you rebalance, no matter how small the shift, opportunistic rebalancing involves the frequent monitoring of the portfolio for positions which have drifted a set amount away from baseline. These are then reset to baseline while making as few other trades as necessary in order to raise or deploy the cash difference.
Practical Tips for Rebalancing Your 401(k) or IRA
- Check your allocations regularly. Many 401(k) plans offer easy online tools that show how your investments are allocated right now.
- Use contributions to rebalance. You don’t always have to sell assets. You can direct new money into underweight investments to gently bring your allocation back into balance.
- Use withdrawals to rebalance. If you're taking money out, consider selling the overweight investments to bring your allocation down.
- Set a rebalancing threshold. For example, rebalance when any asset class drifts more than 10% away from your target allocation. This can prevent constant tinkering when small fluctuations happen
Final Thoughts
- Periodic portfolio rebalancing helps manage risk and can also increase returns.
- Basic rebalancing is easy to implement.
- Opportunistic rebalancing is more complex and time consuming to implement but offers a greater potential boost to returns.
- Investors who work with an advisor or are considering hiring an advisor should ask how their advisor approaches rebalancing.
If you’d like help creating a rebalancing plan that fits your goals and comfort with risk, or want to understand your 401(k) options better, don’t hesitate to reach out. We’re here to guide you every step of the way.