How and when to rebalance your portfolio

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Consider selecting one of two methods for rebalancing to help keep your investments aligned with your goals and risk tolerance.

Key points

  • Your portfolio's target asset allocation of stocks, bonds and cash can be thrown off by the inevitable ups and downs of the markets
  • Regular rebalancing can help keep your portfolio aligned with your target allocation and may help protect you from trading based on emotion Footnote 1
  • To keep portfolio rebalancing simple, consider choosing one of two approaches and then stick with it
  • Check your portfolio allocation with the Merrill Edge Asset Allocator™ (log in required)
You invest for specific goals, whether it's to pay for a child's college education, start your own business or have enough money for a secure retirement. And those goals, along with your comfort with risk, help you decide on a target asset allocation — the percentage of stocks, bonds and cash that will make up your portfolio.
But markets change. They sometimes seesaw rapidly in periods of volatility (usually shorter-term in nature) or perhaps march steadily up or down over longer periods of time. After you've carefully established the allocation that's right for you, shifting market prices will probably alter it in ways you hadn't intended.
For example, when the stock market is doing well and the stocks you own increase in value, stocks will come to represent an ever-larger percentage of your portfolio. This could expose you to more risk than you originally intended.

How your asset allocation could change over time

Consider a somewhat cautious investor who, at the end of 2008, chose a "moderate" level of risk for her portfolio. Because gains in the stock outpaced any gains in bonds or cash, by the second half of 2018, her allocation and her risk level look quite different from her preferred allocation. This exposes her to more risk than she's comfortable with.
Graphic showing a model of how asset allocation can change over a 10-year period from December 2008 to September of 2018.
Chief Investment Office, December 2018 Footnote 2
The illustration is hypothetical and does not reflect specific strategies we may have developed for actual clients. It is not intended to serve as investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Results will vary, and no suggestion is made about how any specific solution or strategy performed in reality.
If your allocation of stocks ends up being greater than you originally planned, and if the stock market were to take a downturn, you might experience a larger drop in portfolio value than you're comfortable with.
"Discomfort can cause investors to sell," says Marci McGregor, senior investment strategist, Bank of America Global Wealth and Investment Management. "But doing so at a market low may lock in losses at exactly the time when investors should consider staying with their investments. Consistently rebalancing your portfolio can help protect you from trading based on emotions."
In fact, research shows that resisting emotional impulses to trade could potentially improve your investment returns by as much as 5%.
Rebalancing is about keeping your eye on the big picture — your goals, your tolerance for risk, your investment time horizon and your liquidity needs — and not being seduced or scared off by the swings of the financial markets.
Consistently rebalancing your portfolio can help protect you from trading based on emotions.
— Marci McGregor,
Senior Investment Strategist,
Bank of America Global Wealth and Investment Management

The benefits of taking action

Rebalancing may sound complicated and time-consuming, so many people either postpone rebalancing or avoid it altogether. Plus, selling what appear to be "winning" investments in order to buy others that haven't increased in value as much can feel counterintuitive, McGregor says.
Ultimately, thinking through what might happen to your portfolio in all market conditions — not just periods of positive returns — can help give you the motivation to rebalance when needed.

Two ways to rebalance

There are two main strategies for rebalancing. Although no particular investment methodology can guarantee success, both approaches can be effective. The important thing is not how you rebalance your portfolio, but picking a method and sticking to it.
Method 1: Periodic rebalancing. This method requires very little effort on your part outside of your commitment to do it.
  • Choose a preset time interval for rebalancing. You could choose to check your investments every six months to see if they need rebalancing, for instance — but consider doing so at least annually.
  • Pick an easy way to remind yourself to check your portfolio allocation. To determine whether your investments need to be rebalanced, you could, for example, regularly check them the week after you submit your tax returns, when you're already focused on your financial picture. Then set a reminder to evaluate your portfolio again six months later.
  • Use the Merrill Edge Asset Allocator™ to compare your current portfolio allocation with your previously set target allocation and then adjust accordingly (see "How to Rebalance," below, for details).
Method 2: "Tolerance band" rebalancing. This method also helps you rebalance your portfolio to align with your intended asset allocation, but is based on a percentage change in your allocation. More frequent monitoring is needed for this method than with the periodic rebalancing approach.
  • You rebalance when your asset allocation changes by a specified percentage that you've previously chosen. For example, if you chose 5% as your threshold of change and your target allocation of stocks was 50% of your portfolio, you would rebalance if your portfolio shifted to 55% stocks in a rising market, or 45% in a declining market.
  • Setting a specific threshold at which you rebalance could help you make considered investment decisions even in a rapidly changing market.
  • During volatile markets, the tolerance band method can be more expensive than periodic rebalancing because you could be buying and selling more frequently and potentially incurring more in trading costs. Those costs will vary, however, based on the composition of your portfolio.

Adjust — and rebalance — as your goals change

Whichever rebalancing method you choose, keep in mind that as your investing goals and time horizon change due to life events, such as the birth of a child or the approach of retirement, you may want to rethink and potentially adjust your target asset allocation. Then, continue to monitor your investments and rebalance using one of the two methods discussed above.
Next steps
  • Use the Merrill Edge Asset Allocator™ to help align your target asset allocation with your current risk tolerance, goals, liquidity needs and time horizon
  • Consider the Merrill Edge Select® Portfolios, which are monitored and rebalanced by professional managers, if you don't wish to monitor your portfolio on your own
How to rebalance your portfolio on merrilledge.com

The Merrill Edge Asset Allocator™ can help simplify rebalancing. Here's how:

  1. Go to the Merrill Edge Asset Allocator™ (you will be asked to log in to your account)
  2. View the Target vs. Current tab
  3. Make sure your designated Target Asset Allocation is still suitable for your current risk tolerance, goals, liquidity needs and time horizon
  4. If you wish to change it, click on Target Allocation and choose a new asset allocation that fits your goals and risk profile
  5. Compare your current asset allocation with your Target Asset Allocation
  6. Select which investments you'll buy or sell to rebalance to your Target Allocation

Footnote 1 Asset allocation, diversification and rebalancing do not ensure a profit or protect against loss in declining markets.

Footnote 2 The Strategic Asset Allocations are identified by the Chief Investment Office (CIO) and are designed to serve as guidelines for a 20-30 year investment horizon. The CIO models allocate assets among specified asset classes and, within each class, reflect broad investment diversification. The models are designed to provide allocation benchmarks based on risk/return profiles.

Keep in mind that there are costs associated with rebalancing.

Taxes and capital gains may be due upon the sale of the asset that has appreciated in value.

Transaction costs to execute and process the trades will include commissions, purchase and redemption fees.

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