IFM Confidence and Discipline: Re-balancing Your Investment Portfolio

Formulating and committing your rebalancing guidelines to paper is the easy part. Now actually try and make the changes as dictated. That part is not so easy. In other words, the most difficult aspect of re-balancing an investment portfolio is having the confidence and discipline to act.

Rebalancing an investment portfolio involves two transactions – the selling of a winning (often popular) investment and the buying of a less popular or maybe even-hated investment. While buying a popular investment is easy, support for selling a popular investment is harder to come by.

Remember: As the investment markets rise toward their cycle peak, the investment portfolio is rebalanced by selling a portion or all of a winning Growth investment and reinvesting the profits in Fixed Income investments. Conversely, as the investment cycles declines toward its trough, the investment portfolio is rebalanced by selling a portion or all of a winning Fixed Income investment and the proceeds are reinvested in Growth investments.

So now imagine that the investment cycle has been rising toward its next peek and your investment portfolio now has an asset mix of 50% invested in Fixed Income and 50% invested in Growth investments. Your target asset allocation is 65% - 35%, so you need to re-balance by selling some of your winning Growth investments and reinvest the profits in Fixed Income investments.

For most investors, selling a winning investment and accepting a lower investment return on Fixed Income seems plainly stupid. If you told your friends what you were going to do they would say you are nuts. If you were to ask the investment industry, they’d tell you that you’re crazy selling that winning investment, that you should be buying more of it, not selling, and they would tell you that interest rates are going to go higher making Fixed Income investments a dumb idea.

In addition to your fear of making what might appear to be a dumb investment decision, you must also combat your own greed. In particular, what we call calculator greed. Let’s see, if I sell the 1,000 shares at today’s price of $10.00 that would be $10,000.00. But if I sell when the price reaches $15.00 that would be $15,000.00. I’ll re-balance when it reaches $15.00.  Not likely because if it reaches $15.00, you will pull out your calculator and set a new rebalancing target.

If you thought that re-balancing in a rising investment cycle would be difficult, try re-balancing in a declining investment cycle. Re-balancing in a declining cycle dictates that money is moved out of nice safe Fixed Income investments and reinvested in declining Growth investments. Now, not only do you have to struggle with your friends and the investment industry telling you that you are crazy to add more to your Growth investments, but you also have to deal with your fear of loss. Because you will never determine the bottom of the trough cycle, chances are pretty good that re-balancing in a declining market cycle will cause your investment portfolio to decrease in value before the cycle bottoms (which is not an easy situation to accept).

Remember: Having the confidence and discipline to re-balance an investment portfolio is the most important determinant for the success of investment portfolio management. And this is where most investors fail.  Keep the re-balancing of a portfolio simple, consistent and mechanical. It works.

Back To Top