Is the time right to rebalance investment portfolios?

Look at why it is important to periodically review and rebalance investment portfolios and why that is more important than ever given all of the volatility in the stock market. This touches on some key themes that we have already discussed in terms of portfolio diversification and risk, but the key message is why it is important to actively review and modify investment portfolios as markets change.

Market volatility creates opportunity to rebalance investment portfolios

The coronavirus pandemic unleashed wild volatility in financial markets across the globe. The dramatic swings create fluctuations in stocks and mutual funds, that for some, can be difficult to stomach. Yet volatility also highlights the importance for individuals to rebalance investment portfolios to keep them in line with long-term investment strategies.

The Dow Jones Industrial Average posted its worst first quarter loss in more than 30 years, dropping some 23% in total value before clawing back from the worst of those losses in second quarter. Some believe that volatility has brought a needed correction to the market in terms of taking some of the air out of what had become inflated market values. Even as the volatility continues to linger, it is an important reminder for one of the fundamental principles of building wealth – don’t invest and forget. It is always wise to periodically review, reassess and rebalance investment portfolios as needed.

Investment portfolio strategy often requires a thoughtful approach to asset allocation in order to build a well-diversified portfolio that fits an individual’s unique investment objectives, time horizon for building wealth and tolerance for risk. Rebalancing simply means that you’re making changes to make sure your asset allocations still align with that strategy and market shifts that may create unwanted overweight or underweight allocations in key assets. Another reason to periodically review and rebalance portfolios is that investment strategies can and do change over time. For example, an investor who started out with a 20-year time horizon may have a very different strategy when that time horizon shrinks to 10 or even five years.  In addition, as the recent pandemic has proven, rebalancing may need to account for new market risks – or opportunities that have emerged.

Several studies have shown that portfolios that are periodically rebalanced back to a target asset mix can produce benefits that include outperformance. For example, Sigma Research studied the effects of portfolio rebalancing spanning a 30-year period between 1975-2004. Average returns on a 10-year, 20-year and 30-year basis all showed slightly higher returns as compared to those portfolios that were not rebalanced. Rebalancing may involve adjusting allocations to certain types of assets, such as stocks, bond and real estate, as well as making changes to allocations within assets to rebalance risk or account for market changes, such as reducing an overweight in tech or energy stocks.

When to rebalance?

Investors can rebalance portfolios as needed, such as if a wealth building goal has been achieved or changed. Some investors take a scheduled approach, re-evaluating portfolio holdings every year or six months. However, it also is wise to re-evaluate portfolios in periods of market volatility, or in the case of the pandemic, a severe shock to investment markets and/or an onset of an economic recession.

Some questions to consider when reassessing investment portfolios include:

• Has your investment time horizon changed?
• Have your investment goals changed?
• Has your tolerance for risk changed?
• Are there new risks in the market that you need to take into consideration?
• Is the market volatility creating new investment opportunities?
• Is your portfolio overweight in a particular sector, such as tech stocks?

Avoid rash decisions

Although periods of market volatility can present an opportunity to reassess portfolios related to changing market conditions,  at the same time it is important to not let panic or fear drive decisions. During periods of volatility, values can fluctuate wildly. What drops sharply one day can rise just as quickly the next. Some investors may be able to capitalize on volatility to take advantage of long-term gains, or even sell assets at a loss in order to realize the tax benefits of offsetting gains realized elsewhere. 

For example, a review of a portfolio might reveal that an investor is overweight in tech stocks. That may prompt a decision to sell some tech stocks and either  hold those proceeds in cash or more liquid bonds or roll the money into an asset type that has a low correlation to the stock market, such as real estate.

One way to avoid making rash decisions during times of market volatility is to have a thoughtful long-term investment strategy that can be used as guide in both good and difficult times. To that point, asset allocations should be based on a strong underlying foundation based on an individual’s investment goals, tolerance for risk and time horizon. As with any investment and financial planning strategy, it is always wise for investors to conduct careful due diligence and work with a trusted advisor.

About CanAm Capital Partners

CanAm Capital Partners, LLC (“CACP”) is a New York-based private equity investor, manager and advisor with a primary focus on real estate principal investment. CACP is an affiliate of CanAm Enterprises, the largest EB-5 lender in the United States. CACP and its affiliates have been involved as a principal or lender in transactions with an aggregate transaction value in excess of $3 billion in multiple markets across the U.S. For more information, please visit www.canamcapital.com/cacp.