What is portfolio rebalancing?

What exactly is portfolio rebalancing? What does it involve?

Hi there,

The term "portfolio rebalancing" refers to the practice of buying and selling portions of investments to maintain a preset structure.

Investors looking to buy and hold (invest long term) generally divide their capital between a range of investment vehicles such as stocks, bonds, commodities, currency, ETFs and mutual funds. The complete collection of investments is referred to as the "investment portfolio".

Certain investment vehicles (like stocks) bear more risk than others (like bonds). When a person creates an investment portfolio, they choose how much of their capital they want to invest in each vehicle depending on their risk tolerance and risk capacity.

Because the value of individual investment vehicles fluctuate, the initial ratios can change over time. For example, if the stocks in a portfolio gain a lot of value, they may eventually make up a much larger share of the portfolio's value than was originally intended. Portfolio rebalancing rearranges capital to match the original portfolio ratios.

Example: You invest CHF 50,000 in an investment portfolio. Of this, 20% (CHF 10,000) is invested in stocks, 50% (CHF 25,000) is invested in bonds, 20% (CHF 10,000) is invested in gold bullion and 10% (CHF 5000) is invested in ETFs.

Five years later, the value of your stocks has doubled to CHF 20,000 and the value of your gold bullion has increased to CHF 15,000. The value of your bonds and ETFs, on the other hand, has remained the same. So your portfolio's value is now CHF 65,000 of which over 30% is made up of stocks and more than 23% is made up of gold bullion.

You rebalance your portfolio by selling some shares and gold bullion and investing the capital in more bonds and ETFs so that ratios match the original plan of: 20% stocks; 50% bonds; 20% gold bullion; 10% ETFs. The value of the portfolio is still CHF 65,000, but capital is distributed to match your investment plan and risk capacity.

Best regards from Moneyguru

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