Skip to main content

Portfolio’s risk-return balancing

Rebalance your portfolio periodically to retain its risk and returns characteristics


   Seasoned investors can vouch for the fact that the key to maintaining a good portfolio mix is periodic portfolio rebalancing. Rebalancing helps in maintaining the portfolio's original risk-return characteristics.


   Asset allocation strategy is crucial to building a strong portfolio. It determines the proportion of any given asset class represented in your portfolio. An older and risk-averse investor has a retirement asset allocation of predominantly fixed income investments. A young and aggressive investor will have the bulk of his money in the stock markets. In a nutshell, a portfolio's asset allocation strategy determines its risk and returns characteristics.


   What happens to the original asset allocation when one asset class yields phenomenal returns while others pale out? As different asset classes give different returns, a portfolio's asset allocation changes considerably with time. It is essential to retain the original risk and returns characteristics of a portfolio. Investors can rebalance by buying and selling portions of their assets in order to regain the weight of each asset class back to its original proportion.

Time to rebalance portfolio    

When should an investor balance his portfolio? The characteristics of the portfolio's assets determine the frequency of rebalancing. If there is a high correlation among the returns of a portfolio's various assets, the performance of assets under the given market conditions will be similar. This significantly reduces the likelihood of the portfolio drifting from target allocation, and hence such a portfolio has little need for rebalancing.
   

Rebalancing becomes critical under these circumstances:


• It is time to rebalance the portfolio when some of your investments become out of alignment with your goals
   
• Your portfolio loses its original asset allocation proportion when some asset classes become over-represented
   
• If your risk profile has changed
   
• When an asset class makes a significant profit or loss
   
• Another strategy is to periodically rebalance the portfolio - say once every six months

Strategies to rebalance portfolio    

How can you rebalance your portfolio? There are three strategies for rebalancing a portfolio that has strayed away from the original asset allocation mix. The most common strategy is to sell star performing stocks and reinvest the profits in debt instruments to regain the original equity-to-debt ratio.


   Most investors hesitate to rebalance at a time when the stock markets are yielding lucrative results. Rebalancing is essential to maintain the risk level of your portfolio.


   Another strategy is to weed out under-performers from your stock basket and reinvest the money in bonds or cash. This way, you can also get rid of risky stocks that are worthless.


   If you have surplus money, you can make fresh investments and raise the percentage level of asset classes that have trimmed down.


   Portfolio rebalancing helps maintain an acceptable level of risk, and in times of turbulence, will prevent gross erosion of portfolio value.

Avoid frequent churning    

When implementing a rebalancing strategy, do not forget to factor in time spent, redemption fees and trading costs. These expenses will reduce the returns from the portfolio. Hence, rebalancing too frequently is not advisable.
   

CASE STUDY

SHANKAR has invested Rs 5 lakhs in stocks and bonds. Since his risk appetite level is medium, he has invested 50 percent of his money in stocks and 50 percent in bonds. In the bull run, the representation of stocks in the portfolio went up to 70 percent. His original investment of Rs 2.5 lakhs in stocks grew to Rs. 7 lakhs. His investments in bonds moved up marginally to 30 percent at Rs 3 lakhs.


   The portfolio has churned out to be quite risky with excessive exposure to equity. Shankar can sell 20 percent of his stock portfolio that have fared well and use those proceeds to invest in bonds to reset the original equity-debt allocation ratio.


   After rebalancing this way, the equity-to-debt ratio has come back to 50:50 at Rs 5 lakhs each.


   If Shankar hesitates to sell stocks performing well, he can explore investing more money in bonds to regain the original asset proportion.

Consequences of not rebalancing this portfolio    

What happens if Shankar does not rebalance his portfolio? Assuming that during the bull run Shankar's portfolio has an equity exposure of 85 percent, only 15 percent of his portfolio is invested in more stable and less risky debt instruments. Assume after a few months, the stock market bubble bursts and a bear market ensues. The incessant selling in the markets plunges investors into gloom.


   Consider a scenario when the crumbling market pulls down Shankar's equity holdings to peanuts. With his debt exposure already at a dismal 15 percent, Shankar has no safety net to fall back on in these troubled times.

 

Popular posts from this blog

How much to invest in gold ?

Invest In Tax Saving Mutual Funds Online Download Tax Saving Mutual Fund Application Forms Buy Gold Mutual Funds Call 0 94 8300 8300 (India) Let your motivation dictate the share of the yellow metal in your portfolio Enough has been said and written about gold as an investment option. The latest argument is that the craze for gold among Indian households is endangering our country's balance of payments. The policymakers are busy trying to find ways of discouraging investment in gold, but if households keep the common good in mind, they would be paying the market price for gas cylinders as they do for, say, their mobile phone bills. After all, private decisions are driven by private motives. So, how should a household look at gold from its own perspective? Gold is primarily acquired for its merit as a store of value. Even if the worst crisis hits a family, the gold that it holds could be put to use anywhere in th...

Save Tax With Mutual Funds

Download Tax Saving Mutual Fund Application Forms Invest In Tax Saving Mutual Funds Online Buy Gold Mutual Funds Leave a missed Call on 94 8300 8300       Mutual funds are ideal as long term investment avenues for retail investors. To encourage investments in this avenue, the Government of India offers investors a spate of tax benefits thus ensuring maximum benefit from mutual funds held beyond a year. Sample some of the key benefits and refer to the table for a detailed list of tax rates for different types of schemes ·        Avail deductions under Sec 80C of the Income Tax Act by investing up to a maximum of Rs. 1 lakh in designated Equity Linked Savings Schemes (ELSS). Such investments have a compulsory lock in period of 3 years. ·        First time retail investors in equity with a gross total income of up to Rs. 12 lakh can invest up to Rs. 50,000 in specific MF schemes un...

LIC's JEEVAN SHIKHAR

  LIC's Jeevan Shikhar is a participating, non-linked, saving cum protection single premium plan wherein the risk cover is ten times of Tabular Single Premium. The proposer will have an option to choose the Maturity Sum Assured. The premium payable shall depend on the chosen amount of Maturity Sum Assured and age at entry of the life assured. This plan also takes care of liquidity need through its loan facility. The plan will be open for sale for a maximum period of 120 days from the date of launch. 1.   BENEFITS   : a) Death Benefit: On death during first five policy years: Before the date of commencement of risk   :   Refund of Single Premium without interest. Single Premium mentioned above shall not include any extra amount if charged under the policy due to underwriting decision and taxes. After the date of commencement of risk   : "Sum Assured on Death" equal to 10 times the tabular single premium shall be payable. On death after completion of five policy years but b...

Rajiv Gandhi Equity Savings Scheme (RGESS) set for launch this week

The finance ministry is set to notify the Rajiv Gandhi Equity Savings Scheme ( RGESS ) this week.   Though Finance Minister PChidambaram had approved on September 21, the scheme announced in this year's Budget, and had said that the revenue department will notify the scheme and the Securities and Exchange Board of India ( Sebi ) would issue relevant circulars within two weeks, it is yet to become operational.   A senior finance ministry official said the revenue department was expected to notify the scheme any day now to attract retail investors to the equity segment.   He added that Sebi was not required to issue any circular for the operationalisation of the scheme and that after the issuance of the revenue department's notification, investors would be able to avail of the benefits of the scheme.   The official accepted that implementation of the scheme had been delayed due to the deliberations on inclusion of mutual funds ( MF ) in it.   ...

IDFC Nifty ETF

IDFC Mutual Fund has launched IDFC Nifty ETF . The fund seeks to provide returns tha, before expenses closely correspond to the total return of the underlying index, subject to tracking errors. The minimum investment is `5,000 and the NFO closes on 30 September. ------------------------------ ----------------- Invest Rs 1,50,000 and Save Tax under Section 80C. Get Great Returns by Investing in Best Performing ELSS Mutual Funds Top 10 Tax Saver Mutual Funds to invest in India for 2016 Best 10 ELSS Mutual Funds in india for 2016 1. BNP Paribas Long Term Equity Fund 2. Axis Tax Saver Fund 3. Religare Tax Plan 4. DSP BlackRock Tax Saver Fund 5. Franklin India TaxShield 6. ICICI Prudential Long Term Equity Fund 7. IDFC Tax Advantage (ELSS) Fund 8. Birla Sun Life Tax Relief 96 9. Reliance Tax Saver (ELSS) Fund 10. Birla Sun Life Tax Plan Invest in Best Performing 2016 Tax Saver Mutual Funds Online Invest Online Download Application Forms For further information contact Prajna Capital on 94...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now