Glossary
Rebalancing
Trading a portfolio back to its target mix after market moves have pushed the weights of stocks, bonds or other assets off target.
Rebalancing means bringing a portfolio back to its intended mix of assets. Markets do not move together, so over time the best-performing holdings grow into a larger share of the account and the portfolio drifts away from the risk level you chose. Rebalancing trims what has grown and adds to what has lagged, keeping risk where you set it.
How it works
You start with a target Asset allocation, such as 60% stocks and 40% bonds. Then you choose a rule for when to act:
- Calendar. Rebalance on a fixed schedule, such as once a year.
- Threshold. Rebalance whenever an asset class drifts more than a set amount, such as 5 percentage points, from target.
- Cash flows. Direct new contributions or withdrawals toward whatever is underweight, which can avoid selling at all.
What it does and does not do
Rebalancing is mainly a risk tool. It keeps a portfolio from slowly becoming far more aggressive than intended after a long bull market. In some periods it also adds a little return by selling high and buying low, but in long, one-way markets it can lower returns, because it keeps trimming the winning asset.
Practical costs matter. In taxable accounts, selling winners can trigger Capital gain taxes, so many investors rebalance inside retirement accounts or use new cash instead. Trading too often adds costs without much benefit; studies of rebalancing frequency generally find little difference between annual and threshold approaches. Many target-date funds rebalance automatically.