Investiční slovník
Rebalancing: What It Is and Why It Matters
Key takeaways
- Rebalancing restores the original asset weights, which drift over time due to different performance.
- Without rebalancing, a portfolio becomes riskier than you originally intended.
- Rebalancing too frequently increases costs and can trigger a tax liability.
- The simplest approach is to rebalance by buying more of underweight asset classes from new contributions.
Rebalancing is the process of restoring the original ratio of individual assets in an investment portfolio, which shifts on its own over time due to the different performance of its individual components.
Why a portfolio drifts by itself
Imagine you built a portfolio three years ago: 80% equities, 20% bonds. Equities have grown strongly since then and their weight has risen to 90%. The portfolio is now riskier than you originally intended — unless you rebalance, you are bearing more risk than you consciously chose.
How rebalancing works in practice
There are three basic approaches:
- Sell and buy: sell part of the overweight asset class and use the proceeds to buy the underweight one — the cleanest method, but it may trigger a tax impact
- Buy from new contributions: direct all new money exclusively towards underweight asset classes — tax-neutral, works well for regular investors
- Reinvest yields: reinvest dividends or coupons from the overweight class into the underweight one
How often to rebalance
The three most common strategies are: once a year (calendar rebalancing), when a threshold deviation is exceeded (e.g. when the weight of an asset class deviates from target by more than 5 percentage points), or a combination of both. Rebalancing too frequently unnecessarily increases transaction costs and, for investors without a DIP, can repeatedly trigger a tax liability from short-term sales.
Rebalancing and returns
Rebalancing is not a tool for maximising returns — it is a risk management tool. It systematically forces you to buy cheaper (the underweight class) and sell dearer (the excess), which may slightly increase long-term returns compared to a portfolio without rebalancing, but the primary goal is maintaining the intended level of risk.
On the tax implications of rebalancing, see the article tax implications of portfolio rebalancing. The principles of portfolio construction can be found in how to build your first portfolio.
FAQ
What is rebalancing in simple terms?
Restoring the original ratio of assets in a portfolio. If equities have grown and represent a larger share than planned, rebalancing involves selling part of the equities and buying other asset classes to bring the weights back to their original values.
Why is rebalancing important?
Without rebalancing, a portfolio gradually becomes riskier than you originally intended. Rebalancing ensures that the portfolio's risk level matches your plan — regardless of how markets happen to be moving at any given time.
How do I rebalance without triggering tax?
Buy more of underweight asset classes from new contributions rather than selling overweight positions. No sale means no tax liability. This works well for regular investors with a regular income.