Rebalancing Portfolio

What is Rebalancing Portfolio?

Rebalancing a portfolio refers to the process of realigning the weightages of the assets in an investment portfolio to maintain a desired level of risk and return. 

Why Portfolio Rebalance is Needed?

Over time, the values of various assets in a portfolio change due to market fluctuations and differing returns. For example, if stocks perform very well, their proportion in the portfolio might increase beyond the intended allocation, increasing risk exposure. Conversely, if bonds or other assets decline, their proportion decreases. This drift changes the portfolio’s risk profile and can lead to unintended risk levels.

How Rebalancing Works?

Rebalancing Process: To rebalance portfolio, an investor will sell some of the assets that have increased in value and buy more of the assets that have decreased in value or underperformed. This helps to bring the portfolio back to its target allocation.

Let's say, An investor sets a target asset allocation, such as 60% equities and 40% bonds. After some time, market movements cause the allocation to shift, say to 70% equities and 30% bonds. To rebalance, the investor sells some equities and buys bonds to return to the original 60:40 ratio. This keeps the portfolio aligned with the investor’s risk and return objectives.

Benefits of Rebalancing

• Maintains the desired risk level by preventing overweighting in riskier assets.
• Encourages a disciplined approach of "selling high and buying low."
• Helps keep the portfolio aligned with changing goals or risk tolerance over time.
• Benefits: Rebalancing can help manage risk by ensuring that the portfolio does not become overly concentrated in one asset class. It can also enforce a disciplined investment strategy, preventing emotional decision-making based on market trends.

When to Rebalance?

• There is no fixed rule, but it is commonly recommended to review and rebalance at least once a year. It can be done on a regular schedule (e.g., quarterly, half yearly) or triggered by certain thresholds (e.g., if an asset class deviates by a certain percentage from its target allocation).
• Some investors rebalance based on thresholds, such as when asset allocation deviates by a certain percentage (e.g. : 10%) from the target.

Downside : Rebalancing portfolio tax implications

To rebalance equity portfolio or rebalance mutual fund portfolio, Investors should consider transaction costs and tax implications when rebalancing, as frequent trading can incur fees and capital gains taxes.

For information on taxes of Investment plans (ULIP) click here. 

"There is NO Capital Gains tax in ULIP funds when you rebalance your funds in ULIP portfolio. But you will have limited fund options to rebalance your portfolio in ULIPs. please note that one can only rebalance funds within the ULIP (not outside the ULIP, meaning one cannot change the ULIP fund, in that case Surrender charges if any and capital gain tax will be applicable)." 

Please contact us to know more about this.

Summary

Overall, rebalancing is a crucial part of portfolio management that helps investors stay aligned with their financial goals and risk tolerance.

Portfolio rebalancing is the process of adjusting the weightings of different asset classes in an investment portfolio to restore the original or desired asset allocation. This involves buying or selling assets to bring the portfolio back in line with an investor's target allocation, which reflects their risk tolerance, investment goals, and time horizon.