---
title: "What is Portfolio Rebalancing?"
description: "What is portfolio rebalancing? Should you rebalance your investments? Why and how often?"
canonical_url: https://trendshare.org/how-to-invest/what-is-portfolio-rebalancing
markdown_url: https://trendshare.org/ai/what-is-portfolio-rebalancing.md
published: 2014-11-01
last_updated: 2017-06-17
content_license: https://trendshare.org/about/disclaimer
---
# What is Portfolio Rebalancing?

Source: https://trendshare.org/how-to-invest/what-is-portfolio-rebalancing
Updated: 2017-06-17
While there's a wealth of often-contradictory advice available about how to
choose the right investments, one piece of advice is common: diversification
can help you avoid risk. The degree to which you diversify is controversial,
but the core idea is widely held: investing everything into a single investment
adds risk.

This is one reason why a simple investment in an [S&P 500 index fund](https://trendshare.org/how-to-invest/buy-the-s&p-index-fund) is a good choice for
many novice investors—especially if they don't want to spend time
researching potential stocks—but even with that investment, you're
getting a small piece of 500 stocks for every dollar you invest. That's also
diversity.

If you have, or plan to have, any other interesting mix of stocks, bonds,
and investments, you've probably heard the advice to "choose the balance of
your portfolio carefully". One rule of thumb is to move your investments from
risky to safe (often from stocks to bonds) a little bit every year, to protect
your assets as you get closer to retirement age.

## What is a Stock Portfolio?

A stock portfolio is the collection of your investments. It may be
individual stocks, [index funds](https://trendshare.org/how-to-invest/what-is-an-index-fund), [ETFs](https://trendshare.org/how-to-invest/should-you-invest-in-etfs), bonds, gold bullion, whatever.

*Portfolio rebalancing* is the practice of changing the percentage of
your money in each investment or investment class to match an ideal. Suppose
you decide you want 50% of your investments in the Vanguard 500 Index Fund, 25%
in individual stocks, and 25% in municipal bonds. You may look at your
portfolio twice a year, in June and December. In the first half of 2014, your
index fund may have grown to 60% of your investments (yay!) and your bonds may
have shrunk to 15%.

If you were to rebalance, you'd sell some of your [VFINX](https://personal.vanguard.com/us/funds/snapshot?FundIntExt=INT&FundId=0040)
and buy more munis. Why?

## A Healthy Mix of Stocks, Bonds, and Other Investments

The goal of diversification—the point of rebalancing your
portfolio—is to reduce your exposure to risk without harming your
potential for profit too much. In principle, when stock values rise, bond
values go down and vice versa. The philosophy of the market seems to be that
people are willing to expose themselves to the risks of stocks when the profit
potential is high enough, but when that potential is too low, they prefer the
lesser returns but lower risk of bonds.

Similarly people who [invest in gold or silver](https://trendshare.org/how-to-invest/should-you-invest-in-gold-or-silver) do so because they believe that precious metals have an
intrinsic value that stocks and bonds do not. (Then again, during a zombie
apocalypse, medical supplies, canned food, and clean water will be more useful
than gold bricks, silver coins, or stock certificates.)

The value of diversification depends on how long you can afford to invest.
If you're 20 and plan to invest for 30, 40, or 50 years, weathering ups and
downs of the market is much easier than for someone who's 50 or 60 and wants to
retire in a few years.

One compounding factor that diversification articles rarely explain is [how taxes affect investments](https://trendshare.org/how-to-invest/what-is-a-good-annual-rate-of-return).
If you have a tax-free or tax-deferred investment, the value of a municipal
bond is much different, as its rate of return doesn't have to account for
capital gains taxes.

There's no single general rule that applies to everyone to determine a
healthy portfolio mix. Your tolerance for risk, your financial situation
outside of investments, and your goal for retirement (buy an island, buy a
motor home, live in the spare bedroom of your most responsible kid) all
determine what a good portfolio looks like.

Set a reminder on your calendar. At least once a year, consider your current
positions, how you've done, where you'd like to go, and if you need to change
your investments to further your goals.

## Why Rebalance Your Investment Portfolio?

Rebalancing your portfolio once in a while has several advantages.  It
reminds you to review your investments and your goals. You can reduce risk, if
you find yourself overexposed in one type of investment. You can increase your
profit potential, if your current investments are too conservative. You can
even redirect future investments more profitably, if you're not satisfied
otherwise with what you have.

Remember though, that [selling stocks in December](https://trendshare.org/how-to-invest/should-you-sell-stocks-in-december) also has pros and cons.

## Cons of Portfolio Rebalancing

Rebalancing isn't always helpful, however.  You'll pay [broker fees](https://trendshare.org/how-to-invest/broker-fees), at least. You may also pay fees for any
mutual funds you own, unless you follow the rules (holding them long enough, et
cetera). You may have to pay capital gains taxes, depending on what investments
you hold and how you hold them.

Worst, you tend to sell off winners to buy losers. (Take a lesson from the
[Russell 2000 promoting great stocks to the Russell 1000](http://www.reuters.com/article/us-russell-rebalance-healthcare-analysis-idUSKBN0OZ0CE20150619), which can hurt investors
who hold the Russell 2000 index funds.) That last point is subtle but
important. If you bought an undervalued stock and it's taken off in the past
six months (maybe it's not a [tenbagger stock](https://trendshare.org/how-to-invest/what-is-a-tenbagger-stock), but it's a two or three bagger), is now the right time to sell it?
Maybe it is. Maybe it isn't. Or if you haven't been [reinvesting dividends](https://trendshare.org/how-to-invest/what-is-dividend-reinvesting), maybe you have
some extra money to put somewhere else.

If you follow the rules of Warren Buffett as expressed in the book [The New Buffettology](http://www.amazon.com/gp/product/0684871742/ref=as_li_tl?tag=trendshare0c-20), there's no point in selling a really
good investment, *ever*. If you bought it at a price that's below its [intrinsic value](https://trendshare.org/how-to-invest/what-is-intrinsic-value), and if it keeps returning
good returns every year, keep it!

Yet if you've bought a turnaround company (Trendshare is pleased with [NLS](/stocks/NLS/view) and is still long on it, as of this writing),
there may come a point at which it won't return as much value every year
because it's fairly priced. Maybe it's not an *excellent* company. Maybe
it's paid you back. It's not a bad stock to own, but there may be better
options in the market.

Similarly, just because one investment option in your portfolio didn't do
well in comparison this year, there's no guarantee that it'll do better if you
put more money into it. Maybe the company just isn't strong. Maybe you're
better off replacing the low performer with something else.

The real benefit of thinking about portfolio rebalancing is reconsidering
what a healthy stock portfolio looks like *for you*.

## What is a Healthy Stock Portfolio?

A healthy portfolio reduces risk to your comfort level. It provides the
aggregate return you want to meet your financial goals. Above all, it includes
only the investments that *you* understand and are comfortable with.

For a [value investor](https://trendshare.org/how-to-invest/what-is-value-investing) looking for great
companies at good prices, maybe you're looking for turnaround plays or
underpriced great performers. By examining your portfolio critically every few
months—and making changes if necessary—you give yourself the
flexibility to adapt to different business conditions, different life
conditions, and changing goals.

If you want an invest-and-forget-it approach, buying a couple of [index funds](https://trendshare.org/how-to-invest/what-is-an-index-fund) will likely meet your needs over
the long term. Otherwise, occasionally reviewing your portfolio gives you
tremendous power to build wealth for the long term. The market changes as
business conditions change. Small course corrections will keep your goals
aligned with reality.