Q & A on rebalancing

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Sarah Skidmore Sell

Like many things in life, investing is all about balance.

As the market moves and other forces take shape, different investments will grow at different rates. Over time, this may leave investors with a higher percentage of money in one type of investment than originally intended, such as more stocks than bonds.

Rebalancing, as it is known, is the act of reviewing and shifting investments to make sure they continue to reflect your goals. That could mean restoring them back to your original asset allocation, or updating them to reflect your changing needs.

It’s an important and often overlooked part of investing that we discussed with John Sweeney, executive vice president of retirement and investing strategies at Fidelity. Answers have been edited for length and clarity.

Q: There are different theories on rebalancing. What are your thoughts on how to approach it?

A: Our philosophy on asset allocation is important to understand first, and that will feed into why rebalancing is important. We try to work with our investors to make sure their asset allocation lines up with their goals, which include time horizon and their risk tolerance.

A 25-year-old is not going to retire for 40 years, so their risk tolerance should be fairly aggressive and therefore heavily oriented toward equities. Because they have time to withstand volatility, we suggest 90 percent (stocks). A 65-year-old, by contrast, should have more like 55 percent in stocks.

What ends up happening when you have a period like we have over the past 10 years, even with the market downturn, the stock market is up about 170 percent from its lows. So you are likely to end up with a portfolio that is significantly more heavily allocated to stocks than to bonds.

Unless you’ve been rebalancing or are in some portfolio or service where that happens automatically, then you are probably more heavily weighted to stocks than you would like to be.

Q: How often should people be rebalancing?

A: One way to do it is time-based. We would suggest at least once a year. Certainly we have some customers that do it once a quarter. You could do it every month if you want.

The way our portfolio managers would do it in a managed account or a mutual fund is on a risk-adjusted basis. What I mean by that is you let the portfolio drift within a band. (Once you hit a certain threshold,) you are going to take some of that equity risk off the table so the portfolio doesn’t get whipsawed too drastically should stocks fall.

Q: What is the most common mistake you see?

A: People don’t do it. We ask people when they come in: “Okay, when was the last time you rebalanced your portfolio?” and they give you a blank stare.

You end up with people who have an allocation that is the same as when they started working, which may have been 40 or 20 some years ago. That is a risky scenario. The other scenario is a young person who doesn’t make any election at all and they are 100 percent in cash. And that money isn’t really earning anything for them because it’s just sitting there.

Q: Where is the line between responsibly rebalancing and tinkering with things too much?

A: We have what I like to characterize as three different ways of driving: you can have an automatic transmission. I liken that to a target date fund, where you put asset allocation in the hands of the portfolio manager. You can have a manual transmission, where you rebalance on your own. And you have a car service: a managed account where you don’t have to worry about the rebalancing or the fund selecting. People may migrate among those over time as their skills and lifestyle change.                                          — AP