Digital Wealth

Chapter 16 The Value of Rebalancing and Glidepaths

“We simply attempt to be fearful when others are greedy and greedy only when others are fearful.”

—Warren Buffett

Even within a buy-and-hold portfolio, some degree of rebalancing is necessary. For example, large stock indices such as the Standard & Poor’s (S&P) 500 or Dow Jones periodically make decisions about updating membership or weights to certain companies. If this didn’t happen, newer companies from Facebook to Apple wouldn’t be part of indices, and railroad stocks from the 1880s would presumably dominate the index (back in 1900, railroad companies actually made up more than half of the U.S. stock market). Even over the decade between 1990 and 2000, half of the membership of the S&P 500 changed, and approximately 30 companies join and leave the index each year.¹ Some amount of rebalancing keeps things current. Just as this is valuable within asset classes it is also helpful to portfolios.

Rebalancing Keeps a Portfolio on Course

When a portfolio is created, it has certain characteristics. At a basic level, exposure to stocks that are expected to offer a higher return is balanced by fixed-income exposure, which, in addition to offering a steady return, helps manage risk when stocks perform poorly. Without rebalancing, in a bear market the portfolio may drift to become too conservative relative to its initial goals as stocks decline in value and bonds potentially rise. Conversely, in good markets stock exposure may ...