Reviewed by Jan 05, 2021| Updated on
Rebalancing is a process of reviewing and readjusting the weightage of the assets in a portfolio. The rebalancing of a portfolio includes regular selling and buying of capital assets to keep up to the desired or original level of risk and returns of the assets in the portfolio. Sometimes, the rebalancing of a portfolio may not be needed. However, periodic review of the portfolio is advisable for all investors. This will ensure that they are not falling behind the market movements.
Let’s consider that the original target of asset allocation is 50% of stocks and the rest in bonds. If the stocks in the portfolio go on to perform well over a period of time, it can have an increase in the weightage of the stocks in the portfolio to touch 70%. The investors can later opt to sell a few of the stocks and invest in bonds so that the portfolio can return to its original or initial target allocation of 50:50 in stocks and bonds.
Basically, rebalancing of a portfolio will help in safeguarding the investors’ interest. It alleviates the undesirable risk as it removes risky instruments from the portfolio. Secondly, the rebalancing of a portfolio will make sure that the exposure of the portfolio will still remain in the expertise of the folio manager.
Usually, the steps involved in the rebalancing of the portfolio are taken in order to make sure that the level of risk taken up by the portfolio is well within the investor’s risk profile. As the performance of the equity instruments varies when compared to the debt instruments, the percentage of capital assets associated with equities will go on to fluctuate as per the market conditions.
Apart from the variable performance, investors can also adjust the overall level of risk well inside the folio to keep up with the varying requirements.