Over a time period, the asset that belongs to different class moves in various directions and resulting changes in an individual’s asset allocation over time. Hence, it is necessary for an investor to rebalance his/her mutual fund portfolio on regular basis.
Portfolio Rebalance Meaning
Whenever the markets are moving up and down, the allocations of an individual’s asset changes according to it. During markets rally that continues for a long time, the equity allocation can go up or it can also go down if the markets correct, hence, results in a change in asset allocation.
Therefore, as an investor, it is your responsibility to rebalance it, in order to retain back the original allocation of the asset.
In short, the process of portfolio rebalancing involves steps and processes to bring back a mutual fund portfolio into its original state of asset allocation.
However, the investor must keep in mind, the debt and equity target proportion depends upon the individual’s risk profile and time frame, during the preparation of his/her asset allocation.
Further, over a period of time, whenever one of the asset class moves above the other one, the allocation in between both the classes may differ from the allocation that was originally planned. This will affect the individual’s returns on the portfolio and the undertaken risk.
Rebalance Portfolio Necessity
In order to manage risks during asset allocation, it is necessary for investors to rebalance their mutual fund portfolios.
Take an example of an investor with low risk who needs 40% equity in his/her portfolio, but suddenly there is a 60% increment in the proportion that has arisen due to stock markets rise. Hence, in such condition, the investor is forced to take more risk than he can intend to handle.
Now, if original asset allocation condition is restored by rebalancing portfolio, it will help the investor to keep market risks within his limit of tolerance.
Also, the rebalancing process helps an individual to book profits during a rising asset class, while investing in some other class which has not risen yet.
Hence, if there is a sharp growth in the equity component of an investor’s portfolio compared to his/her debt, the reason is due to the corresponding rise in the share markets for those assets.
Time To Rebalance
As per the suggestions from financial planners, an investor should go for rebalancing mutual fund portfolios once in a year at least. It can also be done whenever any sharp movement occurs in particular asset class.
Ways To Rebalance
As an investor, he/she can redeem the units of mutual fund from an asset class with more growth, also by adding the asset class with falling proportions. Also, if the investor wants to add fresh money in the current allocation, it is possible to consider adding up asset class that has lagged.
By following this process the investor will be able to increase the asset class value while restoring the original allocation.