Investing is not a set-it-and-forget-it decision. Even if you create a portfolio with a specific mix of stocks, bonds, and cash, that mix can change over time as different investments perform differently.
For example, you might start with a portfolio that contains 70% stocks and 30% bonds. If stocks rise significantly while bonds remain relatively stable, stocks could eventually make up 80% or more of your portfolio.
Your portfolio has now become more aggressive than you originally intended.
Portfolio rebalancing is the process of bringing your investments back toward your desired asset allocation. It can help keep your portfolio aligned with your financial goals, investment timeline, and risk tolerance.
What Is Portfolio Rebalancing?
Portfolio rebalancing means adjusting your investments so that your portfolio returns closer to its intended asset allocation.
Suppose your original investment plan is:
- 60% stocks
- 30% bonds
- 10% cash
After several months or years, strong stock performance could change the portfolio to:
- 72% stocks
- 22% bonds
- 6% cash
The portfolio is no longer close to your original allocation.
To rebalance, you might sell some investments that have grown above their target percentage and move the money into investments that have fallen below their target.
Another approach is to direct new contributions toward the asset classes that are below their target percentages.
The goal is not necessarily to maximize returns. The main purpose is to maintain the level of risk and diversification you originally planned.
Why Does Portfolio Rebalancing Matter?
Asset prices do not move at the same pace.
Stocks may perform strongly for several years while bonds grow more slowly. At other times, bonds may outperform stocks or cash may become more attractive because interest rates are higher.
Without rebalancing, your portfolio can gradually become very different from the allocation you originally selected.
This matters because asset allocation influences portfolio risk.
For example, an investor who originally wanted a balanced portfolio may unintentionally become much more exposed to stocks after a long stock market rally.
If the market later experiences a significant decline, the investor could experience a larger loss than expected.
Rebalancing can help prevent this type of unintended risk drift.
A Simple Portfolio Rebalancing Example
Imagine you invest $100,000 using a 70/30 allocation:
- $70,000 in stocks
- $30,000 in bonds
Suppose the stock portion grows to $84,000 while the bond portion remains at $30,000.
Your portfolio is now worth $114,000.
Stocks represent approximately 74% of the portfolio, while bonds represent approximately 26%.
If your target remains 70/30, you may decide to rebalance.
You could sell some stocks and move the proceeds into bonds, or you could direct future contributions toward bonds until the portfolio moves closer to the desired allocation.
This example is simplified, but it demonstrates why portfolio percentages can change even when you do nothing.
When Should You Rebalance Your Portfolio?
There is no single schedule that every investor should follow.
Some investors review their portfolios once or twice a year. Others use a threshold-based approach and rebalance only when an asset class moves a certain percentage away from its target.
For example, suppose your target stock allocation is 60%.
You might decide to rebalance if stocks move above 70% or below 50%.
This approach allows the portfolio to move naturally with market changes without requiring constant adjustments.
The most important thing is having a consistent method rather than making decisions based entirely on short-term market movements.
Calendar-Based Rebalancing
Calendar-based rebalancing means reviewing your portfolio on a regular schedule.
You might choose:
- Every six months
- Once a year
- Every quarter
Annual rebalancing is simple because you only need to review the portfolio at a specific time each year.
However, more frequent rebalancing does not automatically mean better results.
Constantly buying and selling can create additional transaction costs, taxes, and unnecessary activity.
For many long-term investors, the goal is to rebalance when necessary rather than react to every market movement.
Threshold-Based Rebalancing
Threshold-based rebalancing focuses on how far your portfolio has moved away from its target.
For example, your investment plan might call for 60% stocks.
You could establish a threshold of 5 percentage points.
If stocks rise to 65% or fall to 55%, you would review the portfolio and consider rebalancing.
This approach can help you avoid making frequent changes when market movements are small.
It also creates a predetermined rule that can reduce emotional decision-making.
Should You Rebalance During a Market Crash?
A major market decline can make rebalancing emotionally difficult.
Suppose your target is 70% stocks and 30% bonds. A stock market decline could cause your stock allocation to fall below the target.
Rebalancing might require purchasing more stocks while prices are lower.
That can feel uncomfortable because investors often become more cautious when markets are falling.
However, the purpose of having a predetermined asset allocation is to provide a framework for making decisions during different market conditions.
If your investment plan still fits your goals and risk tolerance, rebalancing may help restore the portfolio toward its intended allocation.
That does not mean every market decline is a signal to buy more. Your financial circumstances and investment strategy should always be considered.
Rebalancing With New Contributions
You do not always need to sell investments to rebalance.
One alternative is to use new money.
Suppose your target allocation is 60% stocks and 40% bonds, but your current portfolio has 65% stocks and 35% bonds.
Instead of selling stocks, you could direct new contributions primarily toward bonds until the portfolio moves closer to the target.
This approach can reduce the need for selling and may also help limit potential tax consequences in taxable accounts.
For investors who contribute regularly, this can be a simple way to keep the portfolio aligned over time.
Portfolio Rebalancing and Taxes
Taxes are an important consideration when rebalancing.
If you sell an investment in a taxable brokerage account for more than you paid for it, you may create a capital gain that could result in taxes.
This does not mean you should never rebalance.
Instead, investors should consider the tax consequences before selling appreciated investments.
Tax-advantaged retirement accounts can work differently because buying and selling investments within certain retirement accounts generally does not create the same immediate capital gains tax consequences as transactions in taxable accounts.
Tax rules can be complicated, so investors with significant taxable portfolios may want to consult a qualified tax professional before making large changes.
Portfolio Rebalancing and Investment Fees
Fees can also matter.
If every rebalance requires buying and selling investments, transaction costs could reduce the amount of money remaining invested.
Many modern brokerage platforms offer commission-free trading for certain investments, but investors should still understand the costs associated with their accounts and investments.
Fund expense ratios also matter because they reduce investment returns over time.
The goal should be to rebalance efficiently rather than constantly trade.
Rebalancing for Long-Term Investors
Long-term investors may benefit from having a clear rebalancing strategy because their portfolios can experience significant changes over many years.
An investor who starts with a balanced portfolio at age 30 may have a very different allocation by age 40 or 50 if one asset class consistently outperforms another.
Starting early can provide more time for investments to grow, but it also means your portfolio may experience many market cycles.
Our guide on Start Investing Early and Why Time Can Beat Bigger Deposits explains why time can have a major impact on long-term investment growth.
The longer you invest, the more important it can become to periodically review whether your portfolio still reflects your original plan.
Rebalancing as You Approach Retirement
Your asset allocation may also need to change as your financial goals become closer.
An investor who is decades away from retirement may have more time to recover from major market declines.
Someone approaching retirement may have less time to recover from a significant loss.
This is one reason some investors gradually shift toward a more conservative portfolio as retirement approaches.
Target-date funds are one example of an investment approach that automatically changes asset allocation over time.
Our guide on What Is a Target-Date Fund and How Does It Work? explains how these funds adjust their investment mix as the target date approaches.
However, target-date funds are not the only option. Investors can also manage their own asset allocation based on their individual circumstances.
How Often Should You Check Your Portfolio?
Checking your portfolio does not necessarily mean changing it.
You can review your investments periodically to determine whether your allocation remains close to your target.
For example, you might check your portfolio every six months but only rebalance when an asset class moves beyond your predetermined threshold.
This can help prevent emotional reactions to daily market movements.
Investors who check their portfolios too frequently may become more likely to react to short-term price changes.
Long-term investing generally requires patience and discipline.
Automation Can Make Rebalancing Easier
Automation can simplify some parts of portfolio management.
Depending on your investment platform, you may be able to schedule recurring contributions or use automated investment features.
Regular contributions can also help keep your portfolio moving toward its desired allocation without requiring constant manual decisions.
Our guide on Automating Your Finances: How to Save Money Without Relying on Willpower explains how automation can help make financial habits more consistent.
Automation does not eliminate the need to review your portfolio, but it can make regular investing easier to maintain.
Common Portfolio Rebalancing Mistakes
One common mistake is rebalancing too frequently.
Markets move every day, and trying to maintain exact percentages at all times can lead to unnecessary trading.
Another mistake is ignoring taxes and fees.
Investors may also make the mistake of changing their target allocation simply because one investment has recently performed well.
For example, increasing your stock allocation after a major stock market rally can mean buying more after prices have already risen.
Similarly, abandoning stocks entirely after a market decline may cause an investor to sell when prices are lower.
A predetermined rebalancing strategy can help reduce these emotional decisions.
Final Thoughts
Portfolio rebalancing is the process of bringing your investments back toward your desired asset allocation after market movements cause the portfolio to drift.
It can help investors maintain their intended level of risk and keep their portfolios aligned with long-term goals.
There is no universal rule for how often you should rebalance. Some investors use an annual schedule, while others use percentage-based thresholds.
The best approach is usually one that is simple, consistent, and appropriate for your financial situation.
Before rebalancing, consider taxes, fees, your investment timeline, and whether your original asset allocation still makes sense.
The goal is not to predict which investment will perform best next. It is to maintain a portfolio that you can realistically stick with through different market conditions and different stages of your financial life.
