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Account Rebalancing

As a follow-up to Choosing Investments in Your Employer-Sponsored Retirement Plan, many investors have questions regarding how to rebalance their personal accounts. Assuming you have completed the tougher task of wading through investment options and have settled on those that best fit your situation, consider the following as a high-level guide to rebalancing your current holdings into your target allocation.

Note: While the general concept remains the same, due to potential tax impacts of rebalancing individual or joint taxable accounts, this guide is more appropriate for 401(k)s, IRAs, and other tax qualified accounts.

Compare your current funds/allocation to your desired goal. This sets the stage by outlining if you will be adding or removing funds and gives you an idea of just how large of a change you will be making throughout the rebalance process. Below is an example of what this may look like:

Compare your current funds/allocation to your desired goal

Determine if you would like to rebalance all at once or over time. There are two schools of thought here:

  • Some argue that if an appropriate change needs to be made, then just make the change. For example, if your allocation is much more aggressive than desired, making the changes all at once reduces the chances of an unnecessarily large near-term drop in your account, should there be a pullback in the market.
  • Others prefer to spread out the changes (over 6 months, 12 months, etc.) to reduce the risk of inappropriately timing the market. For a similar example, if you are reducing risk in your portfolio periodically and the market has a pullback, you had at least rebalanced some of your account before that happened. And if the market should go up throughout your periodic rebalance, some of your account was able to continue to capitalize on that growth.

There is no one correct way to go about this (unless you have a crystal ball to tell what future markets will do) and only time will tell.

Crunch the numbers, and repeat (if necessary). Once you have 1.) set the stage and 2.) determined how you would like to rebalance, the next step is more manual.

  • With your desired funds/allocation in hand, if you have decided to rebalance all at once, you will want to follow the steps outlined by your administrator to login and rebalance yourself or call customer service for assistance with walking you through it. This should be a fairly simple process to update your desired dollar amounts or percentages. Referring to the example table above: one would simply enter the desired allocation of 25% (or $2,500) for each fund.
  • If you choose to make the changes periodically, you will have one added step of calculating how much to change each time. For number purposes, we’ll use five periodic changes as an example. Referring to fund ABC in the example table above, if the allocation needs to be increased by 15% (or $1,500), with 5 periodic changes, each rebalance will be an increase of roughly 3% (or $300). Crunch the numbers, and repeat The same process would be repeated and used to calculate the increase/decrease to the other funds for each periodic change until the entire account is completely rebalanced.

Keep in mind that market activity, contributions, and withdrawals between changes will impact these percentages and should be recalculated each time.

Do not forget future contributions! If you are rebalancing an account that you are actively contributing to, the last thing you want is to forget to update the allocation for your future contributions. Unfortunately, this happens quite often and results in contributions that continue to be invested in funds that do not match your desired allocation, taking away from the hard work you did rebalancing in the first place. So, be sure that your “future contributions” match your desired allocation and confirm after your next paycheck and contributions are invested in your account.

Rebalancing is a key component to managing investments and is something we do for each of our clients’ various accounts. Admittedly, it can get tricky when also factoring in multiple accounts, potential tax impacts for certain accounts, economic/market considerations, etc. However, studies show the long-term impact of rebalancing is too important to overlook, so if you have any questions, please feel free to reach out and see if we can help.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for any individual. This information is not intended to be a substitute for individualized legal advice. Please consult your legal advisor regarding your specific situation. Clarify Wealth Management and LPL Financial do not provide legal advice or services. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All investing involves risk including loss of principal. No strategy assures success or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. Rebalancing a portfolio may cause investors to incur tax liabilities and/or transaction costs and does not assure a profit or protect against a loss.