How and when to rebalance your portfolio

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Learn how and when to rebalance your investment portfolio
Consider selecting one of two methods for rebalancing to help keep your investments aligned with your goals and risk tolerance.
From the Merrill Edge Minute e-newsletter.

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
  • Periodic rebalancing can help keep your portfolio aligned with your target allocation and may help protect you from trading based on emotion
  • 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 or perhaps march steadily up or down for months or years. After you've carefully established the allocation that's right for you, shifting market prices will likely 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.
Rebalancing your portfolio can help maintain a proper asset allocation
Merrill Lynch Global Wealth Management — August 20151
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 Michael Liersch, head of Behavioral Finance for Merrill Lynch Wealth Management. "But doing so at a market low may lock in losses at exactly the time when investors should consider staying with their investments," he says. Research shows that resisting emotional impulses to trade could potentially improve your investment returns by as much as 5%.2
"Consistently rebalancing your portfolio can help protect you from trading based on emotions," says Liersch. 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.

Research shows that resisting emotional impulses to trade could potentially improve investment returns by as much as 5%.2

— Michael Liersch,
head of Behavioral Finance, Merrill Lynch Wealth Management

The value 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, says Liersch.
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.

Rebalancing, simplified

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: Time-based rebalancing. This method requires very little effort on your part outside of your commitment to do it.
  • Choose a 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 if 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: Percentage-based rebalancing. This method also helps you rebalance your portfolio to align with your intended asset allocation. It's based on a percentage change in allocation. More frequent monitoring would be needed than if you were using the time-based rebalancing method.
  • 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.
  • 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 percentage method can be more expensive than time-based rebalancing since you could be buying and selling more frequently and potentially incurring trading costs. Those costs will vary, however, based on the composition of your portfolio.
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

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

1 The Strategic allocations are identified by Merrill Lynch Global Wealth Management and are designed to serve as guidelines for a 20-30 year investment horizon. The Merrill Lynch Global Wealth Management 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.

2 Liersch, M. & Suri A. (2012). Innovations in Behavioral Finance: How to Assess Your Investment Personality from the Merrill Lynch Wealth Management Institute and the academic studies cited therein.

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

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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