Re-Balancing the Portfolio
 

How important is it to rebalance your portfolio? Two sub questions are how often you should rebalance and how accurately you should rebalance.

I have one stock that is suppose to be 15% of my portfolio and has done very well compared to the rest. I've put some money into the rest to balance but it is still 18% of my portfolio. By the end of the year I will be able to take it down to 17.5% (assuming current prices).

If I sell some of the stock I will have to pay taxes on it and it has been invested less than a year so no capital gains benefit. Is it worth the taxes to take it down the extra 2.5% or should I just keep putting money in the other stocks to gradually drive it down?

Re: Re-Balancing the Portfolio
 

Rebalancing is more useful (and practical) in tax deferred or tax free accounts like 401K's. Personally I would not sell any stock for a short term gain just for the sake of rebalancing. If for some reason you think the stock is overpriced then I would sell, otherwise I like to save that big tax bite whenever possible.

Jimbo

Re: Re-Balancing the Portfolio
 

if it isn't a tax deferred acct it definitely doesn't make sense to rebalance. you sacrifice some returns but save huge taxes.

best way to rebalance at this point is to just add more money lol.

Barron

Re: Re-Balancing the Portfolio
 

Yeah, I am planning on adding more $ but it's gaining at a rate that is faster than I can add to the other funds. Thanks for the advice though.

Re: Re-Balancing the Portfolio
 

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Yeah, I am planning on adding more $ but it's gaining at a rate that is faster than I can add to the other funds. Thanks for the advice though.

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np...and just to give you an idea:

there are many backtesting studies that show the results over various time horizons of rebalancing annually, semi annually, monthly, weekly and daily.

taking into account transaction costs and maximizing the positive effects of rebalancing, most studies suggest monthly reblancing excluding tax effects. the overall benefit of monthly rebalancing for low turnover portfolios (depending on a bunch of factors) is 3-10%.

so if tax will eat a huge chunck (35%) then obviously you shouldn't reblanace by selling higher valued securities.

the logic of rebalancing is pretty much the opposite of the recently posted "why leverage funds suck" articles from seeking alpha.com

basically when you rebalance you sell high and buy low vs. maintaining constant leverage you sell low and buy high.

but you should rebalance with all additions since that is frictionless.

Barron

Re: Re-Balancing the Portfolio
 

[ QUOTE ]
[ QUOTE ]
Yeah, I am planning on adding more $ but it's gaining at a rate that is faster than I can add to the other funds. Thanks for the advice though.

[/ QUOTE ]


np...and just to give you an idea:

there are many backtesting studies that show the results over various time horizons of rebalancing annually, semi annually, monthly, weekly and daily.

taking into account transaction costs and maximizing the positive effects of rebalancing, most studies suggest monthly reblancing excluding tax effects. the overall benefit of monthly rebalancing for low turnover portfolios (depending on a bunch of factors) is 3-10%.

[ . . .]

but you should rebalance with all additions since that is frictionless.

Barron

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I can't cite the derivation since the book is at work, but "Investment Science" by Leuenberger has a derivation of gains from rebalancing assuming frictionless trading and a jointly normal return distribution. Adding in a reasonable linear tcost function and solving numerically gives results similar to what barron outlines.