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Rebalancing asset allocation?

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When to rebalance?

My asset allocation is 80%/20% equities/bonds with a good diversification of asset classes. Happy with the allocation. I had intended to rebalance when any asset was 10% over or under weighted. But although one fund or asset class is well beyond this threshold, others are not so if often means buying and selling to rebalance half a dozen funds by 1, 2, or 3% as well as buying/selling the main movers, in order to bring all the allocations back to target. The trading fees are not costly as I use iweb, but in principle I try to minimize unnecessary trading and trading costs.

So - does anyone have any other approaches to rebalancing when it requires several small trades (as well as the larger ones) in order to rebalance, or do you just accept it.

Do you think 10% over/under allocated is too soon to rebalance – do you allow your allocations to drift more than this?

Interested to hear opinions! Thanks!

Comments

  • JohnRo
    JohnRo Posts: 2,887 Forumite
    Tenth Anniversary 1,000 Posts Combo Breaker
    edited 14 April 2015 at 5:10PM
    I use new money to rebalance quarterly with no more than three trades, to meet allocation targets, if I need more trades they have to wait and the three most urgent get priority.

    One of the advantages of having a portfolio worth a piddling amount.

    If the portfolio is high six or seven figures plus that might prove a whole lot more difficult though.
    'We don't need to be smarter than the rest; we need to be more disciplined than the rest.' - WB
  • steelbru
    steelbru Posts: 131 Forumite
    Ninth Anniversary 100 Posts Combo Breaker
    There was a long thread on this, with people's own opinions and links to monevator, etc, within the last 2 weeks if you search back the threads
  • JohnRo wrote: »
    I use new money to rebalance quarterly with no more than three trades, to meet allocation targets, if I need more trades they have to wait and the three most urgent get priority.

    One of the advantages of having a portfolio worth a piddling amount.

    If the portfolio is high six or seven figures plus that might prove a whole lot more difficult though.

    I can see that would help, but I don't always have new money to inject. I just need to buy and sell existing holdings.
  • JohnRo
    JohnRo Posts: 2,887 Forumite
    Tenth Anniversary 1,000 Posts Combo Breaker
    I don't know how many holdings you have but perhaps the solution is somewhat similar to the way I'm rebalancing, cut costs by prioritising the most in need of adjustment, simply sell the one "highest" up to it's rebalance target and then pick either one or two of the "lowest" and bung the sale proceeds in them as appropriate - all the others can then wait until next time. Rinse and repeat.

    It's going to be impossible to maintain a tight allocation model without frequent trading, I'd say 10% +/- as a trigger is fine, if it proves too frequent just increase it to 20%

    A simple spread sheet should be able to give you the actual amounts required for a best fit.
    'We don't need to be smarter than the rest; we need to be more disciplined than the rest.' - WB
  • bowlhead99
    bowlhead99 Posts: 12,295 Forumite
    Part of the Furniture 10,000 Posts Name Dropper Post of the Month
    10% on an individual holding is way too often IMHO.

    A volatile fund could bounce up 10% in a week and all of a sudden it is breaking your rules. You won't be able to leave your portfolio alone and let the funds do their thing, if you have to keep looking at them every five minutes to see if they're still in line.

    Perhaps it depends what you mean by 10%. If you had 20% bonds and they grew to 30% while equities fell from 80 to 70%, and that was what you meant by a 10% swing, it wouldn't be too unreasonable at all, to go and rebalance it . After all, if it had moved the other way (i.e. bonds down from 20 to 10 instead of up to 30, it would be clear that you only had literally half of the bond allocation that you wanted, and you suddenly have scant downside protection against an equities crash. So a movement of 10% of the portfolio would be an ok trigger to do a rebalance.

    However if you are talking about an individual holding, an individual component of the portfolio, changing its weighting by a tenth, that is much smaller and more into micro-management.

    So say you have a general global developed equities fund at a target of 50%. If it changes by a tenth, to 55%, it is really not the end of the world. If a 20% strategic bond holding changes by a tenth to 18% or 22%, it is still performing pretty much the same function in your portfolio. If a dedicated regional or sector-specific fund grows in stature from 5% to 5.5% or 4% to 4.4%, does it need to be reigned in, to stop the rest of your holdings being doomed to failure as they collectively decrease from 96% to 95.6% of your portfolio? I very much doubt it.

    On one of the other threads someone said look at it once a year and move it back on target, or if you notice something has changed its relative weighting by 25-30% before your annual review came around, you could take earlier action. Sounds more reasonable to me than 10%.

    Most IFAs won't look at portfolios more often than once or twice a year - but then, they're not being paid to do it and it's not their money. It doesn't mean you couldn't choose to review once a quarter, but you probably won't see a lot of performance difference, and it might be for the worse rather than the better, depending how things shake out with the benefit of hindsight.

    If you "bank your profit" every single day on the gainers, you'll never get the compounding of those gains when a sector has a continuing strong year. So you will certainly have a more stress free year if you leave things alone, and will perhaps pay lower transaction costs depending on your platform. So, recognise these are long term investments and let them run for a good while, just peeping in once or twice a year to ensure you haven't got a crazy percentage in one sector versus another.

    After all, your initial call of having 10% fund A isn't necessarily "better" than if you'd initially chosen to have 11% or 9% in it anyway unless you are working to build a very specific overall volatility target. Don't use that as an excuse to never make disciplined changes, but it does mean it's not an exact science - you can easily leave it for half a year or more while you focus on other things in your life, unless your whole strategy is based on foresight and timing the market, which is impossible anyway!
  • bowlhead99 wrote: »
    10% on an individual holding is way too often IMHO.

    A volatile fund could bounce up 10% in a week and all of a sudden it is breaking your rules. You won't be able to leave your portfolio alone and let the funds do their thing, if you have to keep looking at them every five minutes to see if they're still in line.

    Perhaps it depends what you mean by 10%. If you had 20% bonds and they grew to 30% while equities fell from 80 to 70%, and that was what you meant by a 10% swing, it wouldn't be too unreasonable at all, to go and rebalance it . After all, if it had moved the other way (i.e. bonds down from 20 to 10 instead of up to 30, it would be clear that you only had literally half of the bond allocation that you wanted, and you suddenly have scant downside protection against an equities crash. So a movement of 10% of the portfolio would be an ok trigger to do a rebalance.

    However if you are talking about an individual holding, an individual component of the portfolio, changing its weighting by a tenth, that is much smaller and more into micro-management.

    So say you have a general global developed equities fund at a target of 50%. If it changes by a tenth, to 55%, it is really not the end of the world. If a 20% strategic bond holding changes by a tenth to 18% or 22%, it is still performing pretty much the same function in your portfolio. If a dedicated regional or sector-specific fund grows in stature from 5% to 5.5% or 4% to 4.4%, does it need to be reigned in, to stop the rest of your holdings being doomed to failure as they collectively decrease from 96% to 95.6% of your portfolio? I very much doubt it.

    On one of the other threads someone said look at it once a year and move it back on target, or if you notice something has changed its relative weighting by 25-30% before your annual review came around, you could take earlier action. Sounds more reasonable to me than 10%.

    Most IFAs won't look at portfolios more often than once or twice a year - but then, they're not being paid to do it and it's not their money. It doesn't mean you couldn't choose to review once a quarter, but you probably won't see a lot of performance difference, and it might be for the worse rather than the better, depending how things shake out with the benefit of hindsight.

    If you "bank your profit" every single day on the gainers, you'll never get the compounding of those gains when a sector has a continuing strong year. So you will certainly have a more stress free year if you leave things alone, and will perhaps pay lower transaction costs depending on your platform. So, recognise these are long term investments and let them run for a good while, just peeping in once or twice a year to ensure you haven't got a crazy percentage in one sector versus another.

    After all, your initial call of having 10% fund A isn't necessarily "better" than if you'd initially chosen to have 11% or 9% in it anyway unless you are working to build a very specific overall volatility target. Don't use that as an excuse to never make disciplined changes, but it does mean it's not an exact science - you can easily leave it for half a year or more while you focus on other things in your life, unless your whole strategy is based on foresight and timing the market, which is impossible anyway!

    bowlhead99, thank you for such a detailed and considered answer.
  • grey_gym_sock
    grey_gym_sock Posts: 4,508 Forumite
    note that you can either rebalance at fixed intervals (e.g. once a year), or when your thresholds have been crossed (which in theory implies continues monitoring of your portfolio, so you notice this), or you can combine the 2 (e.g. look every month, but only do anything if thresholds have been crossed).

    it's arguably best to pick 1 of the above and stick to it, rather than make it up as you go along, because it takes some of the emotions out of rebalancing decisions. (though i don't entirely follow this myself.)

    1 way of setting thresholds is the "larry swedroe 25/5 rule", which sets the thresholds where a holding goes 25% over or under its target weight, or where it is off target 5% of the value of the whole portfolio. e.g. for a 10% target holding, the thresholds would be 7.5%-12.5% (because that's 25% over/under target). or for a 30% holding, thresholds would be 25%-35% (based on 5% of whole portfolio). or for a 20% holding, thresholds would be 15%-25% (the same answer using either rule).

    that's just an example approach, but i think it's broadly sensible.
  • note that you can either rebalance at fixed intervals (e.g. once a year), or when your thresholds have been crossed (which in theory implies continues monitoring of your portfolio, so you notice this), or you can combine the 2 (e.g. look every month, but only do anything if thresholds have been crossed).

    it's arguably best to pick 1 of the above and stick to it, rather than make it up as you go along, because it takes some of the emotions out of rebalancing decisions. (though i don't entirely follow this myself.)

    1 way of setting thresholds is the "larry swedroe 25/5 rule", which sets the thresholds where a holding goes 25% over or under its target weight, or where it is off target 5% of the value of the whole portfolio. e.g. for a 10% target holding, the thresholds would be 7.5%-12.5% (because that's 25% over/under target). or for a 30% holding, thresholds would be 25%-35% (based on 5% of whole portfolio). or for a 20% holding, thresholds would be 15%-25% (the same answer using either rule).

    that's just an example approach, but i think it's broadly sensible.

    Very useful. Thanks.
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