Home maintenance isn’t on most people’s list of favorite things to do, but without scheduled upkeep, bad things happen. Hot water tanks rust, roofs leak, painted walls start peeling, and your shiny new home begins to look tired and frayed around the edges. In the same way, an investment portfolio needs to be maintained if it is to continue to meet your needs.
There are two major forms of adjustment to an investment portfolio: strategic and tactical. Strategic adjustment has to do with you–you do a strategic reevaluation when your circumstances change. Tactical adjustment has to do with the securities in the portfolio—usually when an asset class does a lot better or worse than the overall market.
Rebalancing at these times encourages investors to buy assets that have done poorly, and to trim holdings that have done well. While this is psychologically hard, it’s a good way to add value over time. It helps people to sell stocks when they’re hot, and to buy them when they’re not. But be careful. A stock that sold at 50 isn’t necessarily cheap at 25, if their business model is broken. At such times it pays to be cautious.
When the whole market becomes irrationally exuberant or gloomy, though, it makes sense to rebalance. If you had a balanced portfolio in 1985 and rebalanced it whenever it got to 60/40, you would have added 25% to your portfolio over the next two decades, purchasing equities in 1993 and buying bonds in 2000.
Portfolio maintenance isn’t terribly exciting, but it’s necessary. Sometimes the most mundane tasks that turn out to be the most valuable.
Douglas R. Tengdin, CFA
Chief Investment Officer