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Rebalancing The Portfolio

Tips for Rebalancing Your Portfolio Amid the PandemicThe headlines are all doom and gloom and yet the markets are off their 2020 highs, but not that far off.  What is going on? And, what are you supposed to do? A recent poll on NewRetirement found that most people with a retirement plan are actually not planning on doing anything.  They report that they have retirement under control — the power of a plan!  Another group is simply making some minor tweaks.

The most popular tweak? Rebalancing investments in light of the pandemic.

 

So, what is rebalancing? And, what are the right moves to make with investments now?

What is Rebalancing?

Rebalancing is the process of selling some assets and buying others in order to realign your overall investment portfolio to your desired weightings — your desired asset allocation.

For example, let’s say you want to maintain 10% of your money in cash, 30% in bonds and the remaining 60% in stocks or funds.  But, due to recent losses in the stock market, the percent of your assets in stocks is now at 50%. In order to get back to your desired allocations, you would sell some bonds and use that money to buy more stocks to rebalance and return to your desired asset allocation.

It is traditionally advised that you rebalance at regular time intervals (once a quarter or once a year) or when your desired asset allocation is a pre specified percentage out of whack.

What Is a Good Target Asset Allocation?

The goal of asset allocation is to give you the right level of risk and reward. You want a mix of investment types and diversification within each investment type.

  • Investments in individual stocks, especially if all in the same business sector, can be risky and rewarding (higher potential rates of return, but also a good chance of losses if something goes wrong in that sector).
  • A wide variety of individual stocks of different sizes in a variety of different sectors is less risky, but won’t offer you any guarantees.
  • Diversified mutual and index funds give you less risk because you are naturally exposed to a wider variety of companies.
  • Bonds and other fixed income investments have much less risk (and less reward).
  • Cash has the least amount of risk in terms of losing the face value. However, cash loses value due to inflation and the rate of return on cash accounts is notoriously low — does not always keep pace with inflation.

Your ideal asset allocation is highly personal and dependent on a wide variety of factors:

  • Are you already retired?
  • How old are you?
  • How much of your needed income comes from your assets?
  • Do you want to leave an inheritance?

There are lots of different ways allocate investments. Anything that allows you to achieve your optimal risk and reward balance and gives you access to the money you need, when you need it, is just fine.  The trick is to pick a strategy and stick with it!

Why is Rebalancing an Important Retirement Planning Habit?

Investing, especially retirement investing, should not be an emotional endeavor. You want to have goals and a plan for achieving those goals.

Having a target asset allocation and a plan for maintaining that allocation is an important part of retirement planning success.  You don’t want to make emotional decisions, panic and buy high or sell low.

11 Tips for Rebalancing Now

1. Make Sure You Have Access to Adequate Cash

An emergency fund is critical to maintain, especially now.  However, access to cash equal to at least six months of living expenses is a good rule of thumb.

If you do not have access to cash right now, you could rebalance your investments to access cash.  However, that may not be your best option.  Evaluate these other sources of emergency cash.

2. Assess Your Need to Rebalance

Yes, this means that you are going to have to take a peak at your account balances and assess your target allocation vs. where you are now.

However, remember that this is an opportunity to potentially rebalance and set yourself up for a faster recovery.

3. Rebalance Now? Consider Waiting to Rebalance Until After the Markets Seem Relatively Stable?

With the markets in turmoil over the last six weeks, you might be unsure about when exactly to rebalance, even if you are already on a set schedule.

Some experts suggest that you ride out the extreme volatility and rebalance when things flatten out.

When that will be is anyone’s guess. We are in uncharted territory with the coronavirus and it is unknown how long instability will last.

However, the reality is that stocks typically soar back upward well before the crisis that provoked the selloff has run its course. The market recovery from the 2008-09 financial crisis illustrates this vividly:

  • Despite assurances from the pundits that investors should not expect a v-shaped recovery, stocks did exactly that.
  • From the market low in March 2009, the Dow Jones index gained 30% in the span of just three months.
  • By the end of the year it was up more than 60% from its low point. All of this occurred despite fear continuing to grip the market and the widespread belief that stocks were experiencing a false recovery and would fall below their March lows in short order.
  • Investors who were still waiting for the “all clear” signal to get back into stocks instead saw stocks leave them in the dust.

4. Sell Bonds and Buy Stocks?

If your assets are invested in stocks and bonds, it is likely that you currently have too big of a percentage of your assets in bonds right now. Stocks have lost value. And, bonds are doing well relative to stocks.

It may seem counter intuitive, but by selling your bonds at a premium and buying stocks at a possible bargain, you could be enhancing your upside potential.

Remember, you want to sell high and buy low and that works in this scenario.

5. Go Slowly

You don’t have to rebalance your entire portfolio in one fell swoop, especially in these uncertain times.

If, to get back to your target allocations, you need to sell $100,000 in bonds for example, start by selling and reinvesting just $25,000 and wait a week to see what happens in the markets.

You don’t need to do it all at once and with all the volatility, a 25% adjustment may end up being adequate.

6. Sell Investments You Don’t Like

In addition to rebalancing, now is a good time to sell stocks that you don’t like and move into positions that you would be more comfortable holding for the long term like a low cost index fund.

When the entire market goes down, one strategy that can pay off big is to improve the mix or the quality of your investments.

7. Have Some Winners Right Now? Consider Selling Them and Reinvesting

Remember, sell high!

If you have some stocks that are winners due to the pandemic (Amazon, for example). You might want to consider selling the winners while they are soaring and buy index funds for the long haul.

This — and everything else in this article — is not advice, just ideas to consider.

8. Keep Up Contributions and If You Have Excess Money, Consider Investing!

If possible, keep up with your regular savings contributions. And, if you have cash available, consider buying. The time to buy into the markets is when they are down.

You don’t have to time the exact bottom. When the market is sliding, many people buy a little bit every day and keep buying every time the market dips.

The advantage of this strategy is that you are more likely to get in before things rocket back up.

9. Do a Roth Conversion, Reduce Your Tax Burden

If you have been considering a Roth conversion, doing the transfer when the market is down means that you’ll pay income taxes on a lower portfolio value.

And, when the market bounces back, you will benefit from future tax-free growth and withdrawals from the Roth account.

A few things to keep in mind:

  • A Roth conversion is a permanent move. It used to be you could undo the conversion, but the Secure Act changed that.
  • You’ll want to make sure that the conversion doesn’t raise your Medicare Part B and Part D premiums in future years.
  • Be sure you are careful to follow all conversion rules and reinvest while market is down.
  • Most importantly, make sure you have the money available to pay the taxes owed on the conversion. Ideally not from the account you are converting which reduces the efficiency of a conversion.

It is easy for you to model different Roth conversion amounts in the NewRetirement Planner. PlannerPlus users can:

  • Model conversions at different amounts.
  • Immediately see the difference in your lifetime tax burden.
  • Analyze how it changes tax brackets and more.

Learn more about Roth Conversions.

10. Get Free Advice, Call Your Brokerage

It is never a bad idea to call up your brokerage — or wherever you keep your money — and ask them for some free advice.

They can answer questions and help steer you in a good direction.

11. Consider Tax Loss Harvesting

If you sell investments that aren’t tucked away in a tax-advantaged retirement account, you’ll have to pay capital gains taxes on the profits you made from those investments. However, if you sold any investments at a loss during the same year, you can wipe out those gains for tax purposes and avoid paying the related taxes.

This approach is known as tax loss harvesting.

Tax loss harvesting allows you to get rid of your loser investments while profiting a little from the transaction. In fact, if you have more losses than gains, you can use the extra losses to erase up to $3,000 of other taxable income (including the distributions from your traditional IRAs).

 

 

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