Is your portfolio prepared for the next downturn in the market, or are you carrying too much risk?
We know that markets can go from bulls to bears very quickly, and you want to make sure your portfolios are prepared when the bear shows up knocking on your door. With the recent all-time highs in the various markets, we can become complacent from enjoying the ride. There is more risk when markets are hitting all-time highs than when markets are down.
An essential tool you can use to help prepare for a downturn is the periodic rebalancing of your portfolio. Rebalancing allows you to keep your portfolio at the same risk level you determined best suited for you to accomplish your goals. In up markets, certain investments grow too big and change your risk profile.
For example, if you started with a portfolio that was 50% stock and 50% bonds but now is 60% stock and 40% bonds because the stock side has grown, you are at a much higher risk level than when you started. Rebalancing, in this instance, takes that gain from the stock side and puts it on the bond side to get back to 50/50. Then when the bear markets come, you rebalance back to the stock side from the bond side at lower prices than when you previously sold to move money to the bonds side.
Rebalancing forces you to sell high and buy low, which as we know, is one way to make money.