Securities: Rebalancing: So that the portfolio remains in balance

Every security portfolio at some point loses its desired structure due to price movements. Rebalancing helps investors manage risk.

Many small investors who venture onto the trading floor want to worry about their investments as little as possible. Buy-and-hold is the name of the strategy they choose more or less consciously: Buy stocks and leave them. The basic idea is very good for a long-term investment.

“However, over time a portfolio deviates from its original structure due to different price developments,” explains Franz-Josef Leven, deputy managing director of Deutsches Aktieninstitut. “That’s why investors should continuously check whether the division still fits or whether they might want to switch.”

If you invest your money for the long term, you should invest it in different asset classes to spread the risk of loss – for example in shares, bonds or precious metals. In technical jargon, this is called diversification. The risk of the investment strategy follows from the composition of the portfolio. The higher the weight of stocks in the portfolio, the riskier the strategy. Investors should therefore think carefully about how they want to structure their investments.

“You tend to keep this division over the years,” says Dirk Rathjen, head of the Institute for Wealth Creation. The investment is therefore more of a process. Because once the money is invested, the weighting of the individual investments can shift if prices develop differently.

There are different options for switching

An example: An investor has decided to invest 70 percent of his money in stocks and 30 percent in bonds. However, their shares quickly perform so well that after a while the weighting is 85 to 15 percent. The investor has thus recorded significant capital gains, but at the same time the risk in her portfolio has increased. Thus, especially those who rely on individual stocks can bring a cluster risk into their portfolio in the long term. To get back to the desired weighting, the investor could now switch. This process is called rebalancing.

There are several ways to restore the right balance, says Edda Vogt, stock exchange and investment expert at Deutsche Börse. Option 1: “Savers can sell shares in the well-functioning asset class and put the money into the other components of the portfolio,” says Vogt. “However, this has the disadvantage that you take momentum out of the return.” On the other hand, the investors also secure a part of the profit generated.

If the investors still have money on hand, they should rather use fresh capital to fill up the position that has too little weight in the portfolio, advises Vogt – that’s option two. And the third option: “Anyone who regularly invests in the savings scheme can redirect their savings rates for a time until the distribution is correct again.”

Switching too often costs unnecessary returns

But no one is forced to change. Investors, on the other hand, should always question whether the original portfolio structure still suits you or your investment goals, says Leven. “It can change at any time.” For example, if you suddenly inherit something, you can take a greater risk when you invest with this money behind you. “The overall economic situation may also play a role in the decision,” says Leven. If there is a boom or a recession, it can affect risk appetite.

Stock market expert Vogt recommends taking a very pragmatic approach to this. “Once a year, investors should check their portfolio to see if the weighting is still correct.” If you feel like it, you can also check your portfolio in case of serious events – like when stock markets plummet or skyrocket.

Investors who need help making decisions can also set thresholds at which they trade. For example, if the weighting deviates by five or ten percent from the desired distribution. This also has the advantage that they do not adjust the allocation too often. Because the transactions are usually associated with fees. “Moving too often costs an unnecessary amount of money,” says Vogt. Investors should therefore exercise caution when rebalancing.

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