KEVIN JONES
Wednesday, January 29, 2014
MANY investors start consider investing as a one-time event, where after having saved up enough money, you then go to your investment advisor to be guided on what asset classes your funds should be invested in based on risk appetite, investment goal, market conditions, industry conditions, company strengths and weaknesses, and so on. After this initial investment you sit back and relax, and wait for retirement while your portfolio grows. Others invest funds at regular intervals, monthly, bi- monthly or quarterly, utilizing the well-known dollar cost averaging strategy, and again expect upon retirement all will be well.
However, utilising any of the above two strategies on their own can often lead to disappointment, and unmet expectations when an investor decides it is time to liquidate, as on important ingredient missing from this mix is the practise of rebalancing your portfolio at regular strategic intervals as markets dictate. By rebalancing your portfolio I simply speak to the practice of realigning the percentage of funds you have in each asset class you are invested in. This involves periodically buying or selling assets within the portfolio to maintain or revert to your originally desired asset weightings.
Over time assets tend to grow (and sometimes decrease) at varying rates. As a general rule, once an asset class increases by over five to 10 per cent of your initial targeted percentage, it’s time to consider rebalancing that portfolio. As an example, let’s say you are a young manager, with an appetite for higher risk, and you set your initial asset allocation to be 70 per cent to 30 per cent, stocks to bonds. Subsequently, over a two-year period your unrealised equity gains have altered the weighting of the portfolio to 85 per cent to 15 per cent; stocks to bonds, that would represent a glaring rebalancing opportunity, where you would take the gains on the equity portfolio by selling those equity gains that yielded that 15 per cent increase in equity weighting, and using the funds/cash generated from that sale, to purchase bonds, so as to bring back the portfolio weighting to 70 per cent stock to 30 per cent bonds.
As it stands now, many persons who got into US equities anywhere between January to June 2013 you will be seeing significant gains, even persons who took up US equities in the final quarter of 2013, depending on the stock, are up in most cases. For those persons, now is a great time to rebalance your portfolio. Also, if you are currently overweight in stocks, now is a good time to look at the portfolio asset weighting, as US equities are getting expensive from a weighted average price to earnings ratio standpoint, while bonds, particularly emerging market corporate bonds, continue to struggle to find price increases. Yields are still uncharacteristically high for Investment Grade emerging market corporate debt, and presents significant potential opportunities for price appreciation in the next two to three years.
Admittedly, buying into emerging market bonds may be going somewhat against the grain of the herd. Swimming against the tide, however, can often be a very good investment strategy, as it can often mean that you have positioned yourself for gains, before the herd hops on to the wagon, by which time you will be selling to them and collecting your gains.
Please note that in some cases of course, it may be best to reassess the weightings and change them all together. For example, a 70:30 stock to fixed income ratio is good for a below 35 years individual, while for someone close to becoming a retiree, a 10:90 stock to equity weighting would be more rational.
Therefore, if you are now approaching retirement and looking at ways to generate income you will need for living and recurring expenses, your choices fall into two main categories: dividend income from equities, and interest income from fixed income bonds. The standard principle, however, has been to err on the side of caution and sell out most or your entire stock portfolio, and use those funds to purchase fixed income bonds. Unless you intend to leave behind the equities you have amassed over the years to family after you have passed, selling out most of your stock portfolio upon retirement has proven to be beneficial in yielding needed income, and in supplying the basis for consistent returns from bonds.
Kevin Jones is the manager of the wealth division at Stocks & Securities Ltd. Contact: kjones@sslinvest.com
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The importance of regular portfolio rebalancing
