Importance of Portfolio Rebalancing Strategies [Guide of New Investors]

What is Portfolio Rebalancing?

Rebalancing of portfolio is a process where you buy or sell a portion of your portfolio to realign it back to the target asset allocation. This may sound very simple, but it is actually a long and complex process which depends on a number of factors.

Let us understand this with an example. Suppose you hold investments in equities and debts in your portfolio. After few months, the equity markets perform outstandingly. Now it is a general tendency, that you will allocate more assets in equities in your portfolio, but the same is not the right practice, because it will expose your portfolio to greater risks.

As we already discussed, rebalancing is not that easy and depends on a number of factors. The main motto of rebalancing is way complex than simply following the original asset allocation. Rebalancing depends on factors like your income level, age, risk bearing capacity and liabilities. As a result, any change in these factors may require you to change your target asset allocation as well.

The need of Portfolio Rebalancing

By now, you must be already thinking, what if I don’t rebalance my portfolio? Is rebalancing that important? To answer your questions, let us now take a look at the needs of portfolio rebalancing.

• Active Risk Management - With the fluctuation in market, the level of risk which your portfolio is exposed to also changes. A rising market may call for large investments in the equity market but when suddenly the market drops, you will be exposed to a greater risk of loss. A proper rebalancing strategy will help you in balancing your risks in such instances.


• Aligning Your Portfolio with Your Vision of Investment - With growing age and time, your risk tolerance level, investment capacity and goals are bound to change which definitely require you to re-plan your asset allocation and rebalance your portfolio. The asset allocation which you included in your portfolio few years back may no longer work for you now.

Portfolio Rebalancing Strategies

You must have heard from your fellow traders on investors that your portfolio should be diversified for proper risk management. But do you know that an over-diversified portfolio can prove out to be very harmful for your investment? Let us now discuss about some of the strategies of portfolio rebalancing which you may use:

• Tactical Rebalancing - This strategy is mostly used by investors who are a keen follower of the market and its happenings. This strategy requires you to balance your portfolio depending on market environment and external happenings.


• Periodic Rebalancing - This strategy requires you to review your portfolio on a regular basis and rebalance it whenever necessary. There should be a defined deviation value for trigger rebalancing. For example, if you are holding 70% equities and 30% debt with a deviation of 5%, you will need to rebalance your portfolio if the exposure to either of the assets shoots beyond or below 5%.