Keeping Your Balance: Fundamental Strategies to Implement Now

Determining the right investment plan for you usually comes at the end of your financial planning process. After an extensive review of your current situation, assets, debt, income, and future goals, the final step is to select the correct mix of investments. This is your asset allocation, and it is designed to keep your plan on track, whether that means saving for the future and enjoying your lifestyle now or creating current and future income in retirement. It combines several factors:  

• Your objectives 

• Your time horizon 

• Your risk tolerance  

But you aren't finished once you've identified your time horizon and selected asset classes that, in combination, reflect your desired risk profile. While the overall investment mix shouldn't change too much over the course of a business cycle, the performance of the individual assets will.  

Over different time periods, some assets will perform better than others. This can throw off your overall. risk level as different asset values rise and fall. Why is it important? Because even though assets may be performing well, keeping them in the portfolio may expose you to too much risk. Instead of an allocation to 60% equities and 40% bonds, for example, you may have moved closer to 70% equities and 30% bonds. This means riskier assets are now a bigger part of your overall portfolio, and your risk has increased.  Similarly, if markets decline, you may be under-exposed to different asset classes which may impede your portfolio’s participation in a market recovery.  

The answer? You should routinely rebalance your portfolio. Rebalancing is a systematic way to “reset” your portfolio from out of balance back to in balance by selling overweight assets and buying underweight assets.  This process is holistic and involves looking at your overall financial position by considering your current tax picture, your strategic long-term asset allocation targets, and the current value of positions in your portfolio.    

In times of market volatility like we have experienced so far in 2022, rebalancing is a disciplined way to potentially capitalize on the decline over the long term by selling high and buying low.  

Starting with Maximum Flexibility: Cash 

The stage of your financial journey will usually dictate the amount of your portfolio you keep in cash. In your working years, cash is usually minimal as your risk tolerance is higher, your income needs are met by income from work, and you are focused more on capital growth than capital preservation.  

In retirement, your cash holdings usually increase. Many people keep as much as three-to-five years of living expenses in cash. This ensures that you can meet fixed expenses, regardless of your income stream. You also won't be forced to sell investments that have suffered in a market downturn and decreased in value.   

As you go through the portfolio rebalancing process, you'll want to re-assess your cash needs and determine if you are holding enough cash to cover what is coming up on the horizon. For example, if you plan to have above-normal expenses, you may want to gradually move more holdings into your cash bucket until you have covered the additional expense.  

How Do You Time the Rebalance?  

An annual review should be performed at a minimum, but many people look at their portfolios quarterly or semi-annually. The schedule isn't as important as sticking to it. You can also use your target allocation as a starting point and determine how far you are willing to drift from your target before taking action. In this approach, you determine a specific percentage above or below your target, and if it is hit, it triggers a portfolio review.  

This can be done at the broad asset class level by considering the amount of your portfolio in stocks, bonds, cash, and alternatives, or it can be done more granularly by looking at  sectors, or even individual positions.  

While extreme market moves will certainly be a reason to rebalance back to target, market volatility isn't usually a good reason to change your overall asset allocation targets. This is because your allocation should be built around your long-term plan, and should be able to withstand expected periods of turbulence in the market without sacrificing the ultimate goal of the portfolio. With history as our guide, we are confident that despite bumps in the road along the way, long-term success can be achieved with a diversified portfolio of investments. 

The Bottom Line 

Rebalancing an investment portfolio is critical to keeping your investments on track to meet your goals. It's as much a part of a good plan as determining the right allocation in the first place. Incorporating a discussion of your current situation and any changes to your life that you anticipate coming up should also be part of your portfolio rebalance discussion.  Wright Wealth advocates a consistent, rules-based rebalancing approach.  Contact us to learn how we can assist you in evaluating your plan, and see if a portfolio rebalance is right for you. 

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The information contained herein is intended to be used for educational purposes only and is not exhaustive. Diversification and/or any strategy that may be discussed does not guarantee against investment losses but are intended to help manage risk and return. If applicable, historical discussions and/or opinions are not predictive of future events. The content is presented in good faith and has been drawn from sources believed to be reliable. The content is not intended to be legal, tax or financial advice. Please consult a legal, tax or financial professional for information specific to your individual situation.

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