PETER DOLEZAL: Rebalancing your portfolio

Many investors ignore one of the simplest methods available to them.

Many investors ignore one of the simplest methods available to them, to boost long- term returns of their portfolios, whether registered or non-registered.

Rebalancing portfolio holdings means returning them to their original portfolio percentages when first purchased. This should enhance longer-term returns.

To illustrate the benefits of rebalancing, we’ll use an excerpt from a sample portfolio of Exchange-Traded Funds (ETFs).

The chart on this page shows the actual total return of each ETF holding, both in 2013, and this year to August 31.

By the end of 2013, the superb performance of the top three holdings resulted in their comprising a significantly higher proportion of the portfolio in which they were held than when originally purchased. Conversely, the 2013 sub-par performance of the bottom two ETFs would see them reduced to a lower proportion of the portfolio than originally.

At the end of 2013, had the holder of this portfolio trimmed his outperforming ETF holdings back to their original proportions, and bought more of the laggard ETFs, the portfolio would today be significantly ahead in total value.

The principle is simple.

Once every year or two, an investor should consider selling some of his outperforming holdings, and buying more of the laggards – assuming all were solid choices in the first place. This applies, and requires a disciplined approach of selling high, and buying low – a rather sound principle for any investor.

This is not to be confused with an ill-advised attempt to time market performance, which is rarely successful. Rather, it is simply a means to periodically rebalance holdings back to the original, presumably prudent proportions. The result of this process is the trimming of the high-performers, and the purchase, at a reduced price, of more of the underachievers.

Investors realize that not all holdings will increase or decrease by the same percentage in any given year.

That is the key reason for diversifying holdings amongst various asset classes, countries, and sectors. This dichotomy of performance will result in the eventual skewing of holdings from the portfolio proportions the investor wanted them to represent.

Markets are always cyclical, with a long-term trend to the upside.

That cyclicality further supports the logic of periodic rebalancing of holdings. If this is achieved using a discount trading platform, the rebalancing cost is minimal – less than $10 per transaction.

Investors ought to avoid rebalancing too frequently.

It need be considered only when a significant deviation occurs in the originally chosen proportion held by a particular investment. Rebalancing of portfolios once every year or two should prove adequate in most instances.

 

Exchange-Traded Funds (ETFs)         Actual 2013 Total Return(%)        Year-to-Date Total Return (%) 2014

U.S. Index                                                           34.9                                         9.5

CDN Dividend Index                                           18.9                                        13.2

CDN Banks & Insurance                                     31.9                                        11.8

CDN Utilities Index                                              (4.9)                                        10.7

Global Mining Index                                             (18.2)                                      10.5

 

A retired corporate executive, enjoying post-retirement as an independent Financial Consultant (www.dolezalconsultants.ca), Peter Dolezal is the author of three books, including his recent Second Edition of The Smart Canadian Wealth-Builder.

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