Additional returns for your portfolio through rebalancing

In the last article you learned how you can structure your assets according to your individual risk profile using a broadly diversified global portfolio. In this article, we address the question of how you can use rebalancing to easily and inexpensively restore your original asset allocation if the performance of the individual assets varies.

Before we get into the topic, let us recall the starting position in the last article. We have put together a world portfolio with a risk split of “80% high-risk” and “20% low-risk” (see Figure 1):

Figure 2: A world portfolio for the return-oriented, long-term investorFigure 1: A world portfolio for the yield-oriented, long-term investor

1 Ensure the specified distribution with rebalancing

Now suppose yours bank account increases by 10,000 thanks to additional income and/or greater savings efforts 30,000 francs on. At the same time, the market value of your ETF investments to CHF 72,000which corresponds to a loss of CHF 8,000 or 10 percent.

Let’s further assume that only your investments in emerging markets such as property are affected, each half (ie minus CHF 4,000 each). The other ETF investments have not changed in terms of value. Figure 2 illustrates the new wealth situation.

Asset allocation before rebalancing
Figure 2: Asset allocation before rebalancing

Your original asset allocation has thus changed significantly, in favor of the low-risk part. This is new 29 percent (instead of 20%), while the risky part is only up 71 percent (instead of 80%).

In other words, your current asset allocation no longer matches your risk profile. means rebalancing let’s restore the original balance.

2 Avoid excessive rebalancing

After performing a exact rebalancing your asset allocation would look like Figure 3.

Asset allocation after exact rebalancing
Figure 3: Asset allocation after exact rebalancing

Cool, a smooth precision landing! The weightings correspond exactly to the franc with the defined risk profile. On the one hand.

On the other hand, such an approach would be because of the high transaction fees probably too expensive. Because at least you should five purchases make, three of them with amounts of only 320 francs each.

3 The practical method for rebalancing

Therefore, in such cases, a different, more cost-effective procedure is to be preferred. We propose you the following practitioner method before:

  • We transfer CHF 9,600 from the low-risk to the high-risk part, which means that the original asset allocation (80/20) is exactly achieved again at the top level
  • We invest half of the CHF 9,600 in emerging market ETFs and half in real estate ETFs, which roughly corresponds to the original weighting
  • We ignore the slight deviations of CHF 320 from the target values ​​for the Europe, North America and Asia-Pacific ETFs, because we don’t want to generate unnecessarily high transaction costs
  • So we have the portfolio with only two purchase transactions of 4,800 francs each – with negligible deviations from the target weightings – brought into balance (see Figure 4)
Rebalancing practitioner method
Figure 4: Rebalancing according to the practical method with only two purchase transactions

Rebalancing is the reallocation of investments to restore your predefined asset allocation.

A positive effect after the rebalancing is that asset allocation again your risk profile is equivalent to. In addition, you usually buy not at top prices.

A potential downside however, that is due to frequent redeployment high fees attack. This unnecessarily reduces your returns and runs counter to the buy-and-hold strategy preferred from a scientific point of view.

Therefore our tip: at significant growth the weighting of the low-risk part (bank account), as in the example above, timely rebalancing or invest. Thus, you benefit from stock returns and compound interest, which is significant compared to the bank account in the long run more generous should fail.

If the weightings change only slightly, wait or on reallocations all waive. This procedure saves you transaction costs.

If you are already in the savings phase the rebalancing consists of first selling investments whose weight has increased.

4 Additional return through “rebalancing bonus”

Scientific studies show that additional returns can also be expected when rebalancing within asset classes with roughly the same return prospects. In this context, the literature also mentions “Rebalancing Bonus” the speech.

Gerd Kommer writes about this in the current 5th edition of his book “Souverän Investieren mit Indexfonds und ETFs”: “Over the long term, rebalancing increases the annual return of a well-diversified portfolio by up to half a percentage point, while the risk hardly changes or decreases minimally.”

Rebalancing can be implemented particularly well with an inexpensive online broker.

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Disclaimer: Investing involves risk of loss.

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As a reason for this excess return, he cites, among other things, the so-called Regression to the mean on.

5 Conclusion

Do the actual values ​​deviate from the targets clear off, you should use your attachments rebalancing promptly adjust back to the original weighting, which corresponds to your risk profile.

This procedure is particularly recommended if, for example, thanks additional income and or high savings rate the low-risk part grows much faster than the high-risk part.

With appropriate investments in the risky part, you can have a long-term higher return expect or the return/risk ratio corresponds to your risk profile again.

rebalancing at smaller deviations of less than 1,000 francs is often not worthwhile, because then the transaction fees account disproportionately high. In these cases it is therefore better to wait and avoid reallocations.

In the next article we want to take a closer look at the (rightly) becoming more popular investment vehicle “ETF”, which in our opinion represents nothing less than a revolution in private investment.

You can get a general overview of the topic of “investing” here: Learning to invest – in eight lessons.