Should You Rebalance Your Portfolio?

You’ve probably heard that asset allocation is the most important determinant of portfolio returns. Yet in his recent article Portfolio Rebalancing: Get It Right, Allan Roth argues that the best thing you can do to improve portfolio performance is to rebalance to your initial asset allocation on a regular basis.

Roth shares these findings: In the 15 years that ended on Dec. 31, 2013, returns for U.S. stocks, international stocks and bonds were relatively close. Using the three lowest-cost index funds that existed 15 years ago as proxies for these asset categories, investors would have realized these returns:

  • Vanguard Total Stock Index (VTSMX): 5.38% annual return
  • Vanguard Total International Stock Index (VGTSX): 5.15% annual return
  • Vanguard Total Bond Index (VBMFX): 5% annual return

He then creates three hypothetical portfolios: a very aggressive mix made up of 90% stocks and only 10% bonds, a moderate blend of 60% equities and 40% bonds, and a conservative portfolio of 30% equities and 70% bonds. (All three split the equity portion with two-thirds domestic, one-third international.)

Take a look at Roth’s “Comparing Three Allocations” chart below. Performance for the three portfolios, rebalanced every June 30 and Dec. 31, was similar.
VanguardAnd, significantly, he finds that all three portfolios outperformed each individual fund. Furthermore, the rebalanced moderate portfolio outperformed a static moderate portfolio by 54 basis points annually. Rebalanced twice annually, at the end of every June and December, a moderate portfolio (with 60% stock) and a $100,000 initial investment over the 15-year period would post a 5.72% annualized return, for a $130,334 gain. That compares to just a 5.18% annualized return, or a $113,303 gain if the allocation was set just once.

Why? Remember that regular rebalancing forces investors to do the counter-intuitive: sell winners and buy losers.

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