One of my favorite “niche” areas of content development work, in addition to personal finance topics for military families and financial educators, is financial transitions in later life. Especially since publishing my latest book, Flipping a Switch, I spend a fair amount of time teaching and writing about financial topics that affect older adults — including (but not limited to) portfolio rebalancing.
Full disclosure: I count myself in this category. I have found that I have more “street cred” with older adults now that I am one of them versus presentations I made in my 30s and 40s. Not surprising — people often relate better to “people like them.”
Portfolio Rebalancing Basics
Like some of my blog posts, this one is informed by personal experience. First, some background information on the topic of portfolio rebalancing, which is the process of getting back to target asset allocation percentages (e.g., 60 percent stock, 30 percent bonds, 10 percent cash) when the mix of assets in your portfolio shifts over time due to market conditions and gets out of whack.
The purpose of rebalancing is to maintain desired asset allocation weightings consistent with your age, goals, and risk tolerance.
Without it, stock weightings, especially, would continue to rise, increasing an investor’s exposure to risk of loss of capital. Rebalancing forces investors to “sell high and buy low” which is a proven key to investment success.
When to Rebalance Your Portfolio
There is no clear consensus about exactly when and how to rebalance a portfolio. Some sources recommend annual or semi-annual reviews (and, if necessary, revisions) of asset allocation percentages on dates of your choosing. This is typically done in a two-step process:
- Prepare a net worth statement with the current value of savings and investments.
- Classify your accounts into asset classes (e.g., money market funds as cash equivalent assets and growth mutual funds as equity assets).
Other sources recommend rebalancing when your asset mix shifts by a certain percentage from target weights based on market conditions.
However, there are a variety of percentage shifts suggested: 3 percent, 5 percent, or 10 percent from your targets. Spreadsheets to keep track of asset weightings are available to download on the Rutgers Cooperative Extension website.
How to Rebalance
Once you determine a “when” to rebalance, the next step is to figure out the “how.” There are basically three options: withdraw money from (sell) the overweighted class(es), add money to (buy) the underweighted classes(es), or do both.
Generally, variations in results of various rebalancing techniques are surprisingly small — in other words, if you have any type of rebalancing process and stick with it, it will likely provide some benefit versus no rebalancing at all.
Now, my personal rebalancing story. For decades, I have calculated my net worth and asset allocation using the two-step process (net worth followed by asset allocation analysis) and spreadsheet templates described above.
I typically did this in July when I took much of my vacation time, so I still do these calculations in July today. The process takes about three hours, mostly to look up current asset values online or from statements. Many passwords and text message security codes to deal with!
In July 2020, however, I skipped the asset allocation spreadsheet step. Maybe it was the pandemic or getting ready to launch my book or a multitude of freelance writing assignments last summer. In any case, I didn't do it. So, in July 2021, it had been two years since my last asset allocation analysis.
Needless to say, I was surprised how much the asset class weightings had shifted.
Though recent market trends had worked in my favor, it was time to dial back my stock asset class weighting. I then used the Rutgers spreadsheet to create several hypothetical asset shifting scenarios until I reached my target level.
My Takeaways on Portfolio Rebalancing
Below are seven “Barbservations” about the rebalancing process through the “lens” of an older adult’s portfolio:
- Larger Dollar Amounts: Compared to younger investors, older adults often have larger portfolio sums to rebalance.
- Weighting Change Challenges: Reallocation of larger amounts of money is needed to shift the asset weights of larger portfolios.
- Periodic Review Benefits– Especially in active markets, it is useful to address asset weighting shifts in a timely manner.
- “New Money ” Limitations: Nonworking older adults may not have “new money” (e.g., from a paycheck) to put into underweighted assets to rebalance their portfolio.
- Automatic Rebalancing? If only some assets are set to rebalance automatically, consider doing manual “total portfolio” rebalancing instead.
- Tax Implications: To avoid capital gains taxes by selling assets in taxable accounts, shift money in tax-deferred account assets.
- Portfolio Guidelines: “One size fits all” percentages for stock weights (e.g., 100, 110, or 120 minus your age) are not for everyone.
We are all getting older. It happens. Consider this fact when you rebalance your portfolio. A lifetime of investing is at stake.