The Key to a Balanced Portfolio is Re-Balancing...

Expert Contribution by Brian McGeough, Chatham Wealth Management

Investors should have a goal in mind before they decide how much of each asset class they would like to make up their total investments. Key inputs to help create goals are an investor’s risk tolerance, time horizon, life expectancy, and estimated income needs. If a person has a longer time horizon and higher risk tolerance, their investments should be more weighted towards equities. An investor with a lower risk tolerance or shorter time horizon should generally have more fixed income assets in their portfolios. This is because a younger person can generally handle a big market pull back better than a person that is approaching retirement years. Younger investors have more time in the work force to recover from short to medium term declines in the market.

After 2019, when the S&P 500 stock index was up over 30%, investors tend to get excited about the high returns. They overlook that fact the such a big run up in equities will most likely put their equity allocation way above their target percentage. The average yearly return on the S&P 500 since 1926 is about 9.8% a year. The return of the S&P 500 over the last 10 years is averaging over 14% per year. It would be realistic to expect returns to revert to the long-term average. To use a recent (but extreme) example, at the low of the financial crisis in March 2009, the S&P 500 was at 666. Today the S&P 500 is at 3220. That is an increase of 384%. Over the same time period, the aggregate bond index is up 45%. What was a 70% equity portfolio 10 years ago is now 86% equities if no adjustments were made. There is a lot more risk in this portfolio today than there was 10 years ago due to the higher level of equity exposure. It is time to think about re-balancing!

One way to re-balance a portfolio, would be to look at your asset allocation every 3-6 months. If stocks have increased to 5% over your target allocation, take some profits and re-allocate to other asset classes. On the other hand, if the equity part of your portfolio drops to 5% below your target due to a hiccup in the market, then sell some fixed income assets and re-allocate to equities. Along with maintaining a balance that you are comfortable with, this approach also makes sure that you are selling equities when they are high and buying them on pull-backs.

At Chatham Wealth Management, we work with clients to identify their long-term goals, time horizon and risk tolerance in order to create a comprehensive financial plan and construct a portfolio with the appropriate asset allocation. We monitor and update the financial plan as well as the asset allocation within the portfolio. Call us at 973-635-4275 or email us at info@chathamwealth.com if we can be of assistance in re-balance your investment portfolios.