How much does diligent rebalancing add to a portfolio?

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Ron Scott
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How much does diligent rebalancing add to a portfolio?

Post by Ron Scott » Fri Nov 10, 2017 7:44 am

Rebalancing forces investors to leverage volatility (buy low and sell high). If your 50-50 portfolio drifts to 60-40 as market valuations increase, you sell stocks to bring it back to 50-50, and if there's a recession or market correction and it drifts to 40-60 you buy stocks at a lower price.

Let's say you've used rebalancing diligently for 40 years, throughout the course of your investing life. I on the other hand put half my contributions to savings in stocks and half in bonds, without considering the effect of market volatility on my underlying portfolio, for the same 40 years.

You should end with more money. How much?
Retirement is a game best played by those prepared for more volatility in the future than has been seen in the past. Preparing for financial challenges is more fruitful than trying to predict them.

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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Fri Nov 10, 2017 9:31 am

Ron Scott wrote:
Fri Nov 10, 2017 7:44 am
Rebalancing forces investors to leverage volatility (buy low and sell high). If your 50-50 portfolio drifts to 60-40 as market valuations increase, you sell stocks to bring it back to 50-50, and if there's a recession or market correction and it drifts to 40-60 you buy stocks at a lower price.

Let's say you've used rebalancing diligently for 40 years, throughout the course of your investing life. I on the other hand put half my contributions to savings in stocks and half in bonds, without considering the effect of market volatility on my underlying portfolio, for the same 40 years.

You should end with more money. How much?
That has a simple answer. On average risky investments grow faster than less risky investments so over time you accumulate a higher returning and more risky portfolio and have a lot more money (but with great uncertainty exactly how much money). But the difference is the obvious one that you don't have a 50/50 asset allocation. You have an asset allocation that in the end is almost all stocks. The purpose of rebalancing is to control risk. If you want to maximize return you invest 100% in the highest returning assets you can find. If you don't believe in factor investing, that would be 100% total stock market, and, obviously, you don't rebalance. If you believe in factor investing, you might choose 100% in small cap value, also not rebalanced, of course. If you want to admit alternative investments you might speculate in frozen hog bellies. Leverage is another approach, but there are some issues doing that without cost drags.

I'm not sure where there is a calculator that shows the example for how a portfolio evolves at a changing asset allocation. There are lots of calculators that show how different asset allocations evolve compared to each other.

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tadamsmar
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Re: How much does diligent rebalancing add to a portfolio?

Post by tadamsmar » Fri Nov 10, 2017 9:36 am

Depends. Adds zero in a random walk market. Adds some in a mean-reverting market. Subtracts some in an up-trending market:

https://personal.vanguard.com/pdf/flgprtp.pdf

Look at Table 3. Rebalancing did not make much of a difference, no evidence that it added to the portfolio,

The reason to rebalance is avoid having your stock allocation grow and thereby increase your risk. But it typically takes many years for your risk to grow by much.

I have been rebalancing once a year. But once every five years might be good enough. Shorter intervals might hurt due to short-term trending effects.
Last edited by tadamsmar on Fri Nov 10, 2017 9:48 am, edited 5 times in total.

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House Blend
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Re: How much does diligent rebalancing add to a portfolio?

Post by House Blend » Fri Nov 10, 2017 9:36 am

You have that backwards.

If each new investment is 50:50, no rebalancing, then after 40 years, you should expect to have a larger portfolio than the diligent rebalancer.

Rebalancing is not about improving returns, it's about risk control. If you want to improve returns, increase your allocation to risky assets.

It's hard to do 40 year backtests over at portfolio visualizer, but here's a 30 year experiment:

Initial investment: $5000;
Monthly contribution $500+inflation.
50:50 US Total Stock + US Total Bond.

Rebalancing for 30 years via 5% bands: $1,095,847.

No rebalancing for 30 years: $1,134,988 (ending with 75% stock).

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JPH
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Re: How much does diligent rebalancing add to a portfolio?

Post by JPH » Fri Nov 10, 2017 9:44 am

"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
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Re: How much does diligent rebalancing add to a portfolio?

Post by DaufuskieNate » Fri Nov 10, 2017 9:45 am

Portfolio Visualizer allows you to look at a portfolio that is re-balanced periodically vs one that is not re-balanced. Granted, this is not the same as the example of continuing to invest annually at the original allocation. However, the results can be instructive nonetheless.

Period 1972-2017
Start with a 50/50 TSM/Int. Treasuries portfolio.

Re-Balanced Annually: 9.19% return 8.42% volatility

Not Re-Balanced: 9.22% return 9.88% volatility

As has been pointed out, not re-balancing typically results in added risk over time. The non-re-balanced portfolio above went from 50/50 to 75/25 over this timeframe.

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Re: How much does diligent rebalancing add to a portfolio?

Post by birdog » Fri Nov 10, 2017 9:51 am

JPH wrote:
Fri Nov 10, 2017 9:44 am
"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
Because, according to the author, the returns were lower by rebalancing too often.

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JPH
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Re: How much does diligent rebalancing add to a portfolio?

Post by JPH » Fri Nov 10, 2017 9:58 am

birdog wrote:
Fri Nov 10, 2017 9:51 am
JPH wrote:
Fri Nov 10, 2017 9:44 am
"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
Because, according to the author, the returns were lower by rebalancing too often.
I know that; that's why I quoted from the article. Why should I believe it is true? What are the factors that supposedly would drive such a phenomenon?
While the moments do summersaults into eternity | Cling to their coattails and beg them to stay - Townes Van Zandt

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Re: How much does diligent rebalancing add to a portfolio?

Post by rbaldini » Fri Nov 10, 2017 10:03 am

Ron Scott wrote:
Fri Nov 10, 2017 7:44 am
Let's say you've used rebalancing diligently for 40 years, throughout the course of your investing life. I on the other hand put half my contributions to savings in stocks and half in bonds, without considering the effect of market volatility on my underlying portfolio, for the same 40 years.

You should end with more money. How much?
This is almost certainly wrong. Stocks historically return more than bonds, which means most of the time stocks will grow faster than bonds, which means when you rebalance you will usually be moving money from a high return investment to a lower return investment. The long term result is less money.

So why do it? Because sometimes the short term matters. That's why we don't all just hold 100% stock. If you didn't rebalance there would be no way to control your asset allocation and therefore no way to control your risk-return profile.

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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Fri Nov 10, 2017 10:06 am

JPH wrote:
Fri Nov 10, 2017 9:58 am
birdog wrote:
Fri Nov 10, 2017 9:51 am
JPH wrote:
Fri Nov 10, 2017 9:44 am
"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
Because, according to the author, the returns were lower by rebalancing too often.
I know that; that's why I quoted from the article. Why should I believe it is true? What are the factors that supposedly would drive such a phenomenon?
This calculation involves comparing the returns of portfolios that don't have the same asset allocation over time. The perfectly rebalanced portfolio is always at exactly the target asset allocation. Rebalancing according to some rules that allow the asset allocation to be different from that for periods of time also allow an asset allocation that will have a different return for periods of time. The actual difference can be strongly influenced by the detailed history of the market in the time periods examined. The simplest example, one in another thread running right now, is for the rebalancing rule to be not rebalancing. The average effect of this is for the portfolio to drift to a higher and higher allocation to stocks and to have a higher return. I haven't looked at the paper, but one reason rebalancing too frequently might result in lower returns than rebalancing less frequently would be momentum in stock returns. Again, I would be very careful of period dependence in whatever data is being presented.

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Taylor Larimore
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Rebalancing

Post by Taylor Larimore » Fri Nov 10, 2017 10:15 am

Bogleheads:

Most authorities agree that our asset-allocation is our most important investment decision--especially our stock/bond ratio.

The primary importance of "rebalancing" is to maintain our desired asset-allocation.

Best wishes.
Taylor
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Re: How much does diligent rebalancing add to a portfolio?

Post by TheTimeLord » Fri Nov 10, 2017 10:27 am

Rebalancing is about risk management not increasing returns. FYI, it does not guarantee you buy low and sell high. People have been basically selling low throughout the entire bull market and probably buying bonds a bit high given rates have been rising by rebalancing. Or do you disagree?
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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Fri Nov 10, 2017 10:36 am

TheTimeLord wrote:
Fri Nov 10, 2017 10:27 am
Rebalancing is about risk management not increasing returns. FYI, it does not guarantee you buy low and sell high. People have been basically selling low throughout the entire bull market and probably buying bonds a bit high given rates have been rising by rebalancing. Or do you disagree?
Yes, your point is correct. The observation that rebalancing is selling low during a bull market is correct and explains why the idea that rebalancing is only about buying low during a market decline is far from the whole story. I think people might in some cases confuse rebalancing with some sort of scheme to time the market, which it is not. The opposite to rebalancing is to not rebalance and allow the portfolio to drift to a more risky portfolio which indeed has higher return. Hence the actual conclusion is that rebalancing reduces return.

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Re: How much does diligent rebalancing add to a portfolio?

Post by Ron Scott » Fri Nov 10, 2017 3:39 pm

Taylor Larimore wrote:
Fri Nov 10, 2017 10:15 am

The primary importance of "rebalancing" is to maintain our desired asset-allocation.

TheTimeLord wrote:
Fri Nov 10, 2017 10:27 am
Rebalancing is about risk management not increasing returns. FYI, it does not guarantee you buy low and sell high.
Have to admit I'm confused. I now understand that set-and-forget has performed better in terms of long term yield than rebalancing. I thought the opposite.

I searched my Kindle to find where I got the notion. It was in my interpretation of information in "The Bogleheads Guide To Retirement Planning":

Chapter One: "This sell high and buy low transaction can be an effective strategy to keep you on track to meet your goals."
Chapter Eight: "Rebalancing also has the added advantage of forcing you to buy low and sell high."

The bolded emphasis in the latter quote is mine, and leads to another question. If the purpose of rebalancing is to help you keep on a risk-tolerence-based asset allocation but has the added advantage of buy low sell high, what exactly is the added advantage if rebalancing itself results in a lower long term yield than a set-and-forget approach?

It sounds more like rebalancing appeases the psyche but lightens the wallet.
Retirement is a game best played by those prepared for more volatility in the future than has been seen in the past. Preparing for financial challenges is more fruitful than trying to predict them.

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Re: How much does diligent rebalancing add to a portfolio?

Post by Swelfie » Fri Nov 10, 2017 4:08 pm

JPH wrote:
Fri Nov 10, 2017 9:58 am
birdog wrote:
Fri Nov 10, 2017 9:51 am
JPH wrote:
Fri Nov 10, 2017 9:44 am
"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
Because, according to the author, the returns were lower by rebalancing too often.
I know that; that's why I quoted from the article. Why should I believe it is true? What are the factors that supposedly would drive such a phenomenon?
If you take factors into account, then there is a plausible theory.

Value is investing in mean reversion. Momentum is investing in trends. These 2 factors are opposite and compete with each other. If stocks fall then the value factor suggests they will likely rise again back to the mean. Rebalancing would capitalize on this, causing you to sell your high priced assets and buy the lower priced ones. However, if stocks are in the process of falling, the momentum factor suggests that they are likely to continue to do so, so investing in a falling asset is shorting the momentum factor.

Frequent rebalancing has you always shorting momentum and going long value. Infrequent rebalancing gives the downward Trent time to cool off, allowing you to still long value but with a more momentum neutral investment profile. This may be a reason why infrequent rebalancing has tended to outperform frequent. You also have fewer commission and spread costs this way.

Personally, I rebalance on 4% bands, but put new investments into assets that are trailing and count liquidity due to tax loss harvesting as new investment rather than just a straight swap to a similar asset. The new investments almost always keep my AA within band so I almost never need to rebalance at all.

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Re: How much does diligent rebalancing add to a portfolio?

Post by JPH » Fri Nov 10, 2017 4:18 pm

Thank you for your thoughtful reply.
While the moments do summersaults into eternity | Cling to their coattails and beg them to stay - Townes Van Zandt

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Re: How much does diligent rebalancing add to a portfolio?

Post by alex_686 » Fri Nov 10, 2017 4:47 pm

There is another factor that we have not talked about there, how we rebalance and the type of market we are in.
There are concave and convex rebalancing options out there. Each of these rebalances risk but in different ways.

Concave, or having a fixed asset allocation, does best in a osculating market - it goes up, then down, then up again. This will beat out a buy and hold strategy. If your risk tolerance is constant in relationship to wealth, then go with this.

On the other hand, there are convex options out there, like Constant Proportion Portfolio Insurance (CPPI, not a insurance product thing). If your risk tolerance falls with wealth - I have won the game so why keep on playing - then this is your option.

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Re: How much does diligent rebalancing add to a portfolio?

Post by TheTimeLord » Fri Nov 10, 2017 5:33 pm

Ron Scott wrote:
Fri Nov 10, 2017 3:39 pm
Taylor Larimore wrote:
Fri Nov 10, 2017 10:15 am

The primary importance of "rebalancing" is to maintain our desired asset-allocation.

TheTimeLord wrote:
Fri Nov 10, 2017 10:27 am
Rebalancing is about risk management not increasing returns. FYI, it does not guarantee you buy low and sell high.
Have to admit I'm confused. I now understand that set-and-forget has performed better in terms of long term yield than rebalancing. I thought the opposite.

I searched my Kindle to find where I got the notion. It was in my interpretation of information in "The Bogleheads Guide To Retirement Planning":

Chapter One: "This sell high and buy low transaction can be an effective strategy to keep you on track to meet your goals."
Chapter Eight: "Rebalancing also has the added advantage of forcing you to buy low and sell high."

The bolded emphasis in the latter quote is mine, and leads to another question. If the purpose of rebalancing is to help you keep on a risk-tolerence-based asset allocation but has the added advantage of buy low sell high, what exactly is the added advantage if rebalancing itself results in a lower long term yield than a set-and-forget approach?

It sounds more like rebalancing appeases the psyche but lightens the wallet.
I would suggest you google John Bogle and rebalancing. I think there is a New Times piece where he lays out his thoughts on the topic. Nothing wrong with rebalancing per se, people just shouldn't count on it providing a meaningful kick to their return but it will likely make their ride less bumpy. Problem with buy low, sell high is you have to know how high is high and how low is low.
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Re: How much does diligent rebalancing add to a portfolio?

Post by Johnnie » Fri Nov 10, 2017 5:56 pm

alex_686 wrote:
Fri Nov 10, 2017 4:47 pm
There is another factor that we have not talked about there, how we rebalance and the type of market we are in.
There are concave and convex rebalancing options out there. Each of these rebalances risk but in different ways.

Concave, or having a fixed asset allocation, does best in a osculating market - it goes up, then down, then up again. This will beat out a buy and hold strategy. If your risk tolerance is constant in relationship to wealth, then go with this.

On the other hand, there are convex options out there, like Constant Proportion Portfolio Insurance (CPPI, not a insurance product thing). If your risk tolerance falls with wealth - I have won the game so why keep on playing - then this is your option.
It isn't just arithmetic either, but also where you are in your life cycle. A person who is within just a few years of retirement doesn't want a too-heavy equity allocation due the risk of a "late inning setback." A person in the first few years of retirement doesn't want a too-heavy equity allocation due to being most vulnerable then to sequence of returns risk.

Together, those two times of life may represent a period of about 10 or 12 years when medium-term market risk weighs more heavily than modest changes in possible long term returns over 30 or 40 years.

For those people, the point goes to "rebalancing is about maintaining asset allocation."
"I know nothing."

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Re: How much does diligent rebalancing add to a portfolio?

Post by venkman » Fri Nov 10, 2017 10:45 pm

JPH wrote:
Fri Nov 10, 2017 9:58 am
birdog wrote:
Fri Nov 10, 2017 9:51 am
JPH wrote:
Fri Nov 10, 2017 9:44 am
"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
Because, according to the author, the returns were lower by rebalancing too often.
I know that; that's why I quoted from the article. Why should I believe it is true? What are the factors that supposedly would drive such a phenomenon?
I wouldn't place much validity on the author's conclusions in the article. In his backtesting, the hypothetical person who never rebalanced ended up with the LOWEST amount at the end, which is the opposite of what you would expect. It just happened that the backtesting covered a period where bonds outperformed equities over a long stretch.

Assuming no transaction costs, I would guess that the decision to rebalance monthly, quarterly, yearly, or using bands will be one of those things where the "best" choice will depend on what ends up happening in the markets, and can only be known after the fact.

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Re: How much does diligent rebalancing add to a portfolio?

Post by aerenthal » Sat Nov 11, 2017 12:03 am

Similar conclusion that rebalancing is a crapshoot when it comes to investment returns was also summarized in https://www.forbes.com/sites/baldwin/20 ... t-returns/. In short, while it may slightly outperform more often than if you left your portfolio alone, when it underperforms, it underperforms twice as much. You'll never know if you'll come out ahead, so it's best to leave it as a technique for maintaining the desired risk profile of you asset allocation.

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Re: How much does diligent rebalancing add to a portfolio?

Post by birdog » Sat Nov 11, 2017 7:22 am

venkman wrote:
Fri Nov 10, 2017 10:45 pm
JPH wrote:
Fri Nov 10, 2017 9:58 am
birdog wrote:
Fri Nov 10, 2017 9:51 am
JPH wrote:
Fri Nov 10, 2017 9:44 am
"The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little."

Why?
Because, according to the author, the returns were lower by rebalancing too often.
I know that; that's why I quoted from the article. Why should I believe it is true? What are the factors that supposedly would drive such a phenomenon?
I wouldn't place much validity on the author's conclusions in the article. In his backtesting, the hypothetical person who never rebalanced ended up with the LOWEST amount at the end, which is the opposite of what you would expect. It just happened that the backtesting covered a period where bonds outperformed equities over a long stretch.

Assuming no transaction costs, I would guess that the decision to rebalance monthly, quarterly, yearly, or using bands will be one of those things where the "best" choice will depend on what ends up happening in the markets, and can only be known after the fact.
After reading this thread and learning more about rebalancing, I would agree with you.

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Re: How much does diligent rebalancing add to a portfolio?

Post by nedsaid » Sat Nov 11, 2017 7:35 am

I played around in Portfolio visualizer, using an allocation that roughly corresponds to the asset allocation that my own portfolio has had over the years. It appears that since I did not rebalance from bonds to stocks during the 2008-2009 bear market and financial crisis, that I may have sacrificed between 30 to 40 basis points in annual return over a 10 year period. It appeared that the best results were achieved by rebalancing yearly. Rebalancing monthly was not as good as rebalancing yearly but better than not rebalancing at all. Because of the steep drop in stock prices during the 2008-2009 bear market, there was a rebalancing bonus if one rebalanced from bonds into stocks.

My take is that sometimes you get a rebalancing bonus and sometimes you don't. It would seem obvious that rebalancing from stocks to bonds in a rising stock market would decrease returns a bit but also reduce volatility. My take is that you rebalance to maintain a steady asset allocation and to reduce risk.

There might be a rebalancing bonus when rebalancing between volatile asset classes such as Small Cap Value, Emerging Markets, Micro Caps, stuff like that. Sort of a buy low, sell high type of phenomenon.
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Re: How much does diligent rebalancing add to a portfolio?

Post by AtlasShrugged? » Sat Nov 11, 2017 8:17 am

Ron Scott...I thought you posed a good question. How much more money will you wind up with with rebalancing?

Ultimately, the answer is unknowable. We will only know in hindsight, which is almost always 20/20.

Let me suggest that rebalancing is really more for avoiding serious behavioral mistakes. Mr. Larimore stated that rebalancing is to maintain asset allocation and that is 100% correct. I see rebalancing as a 'rules based tool' to take emotion out of the equation (as much as that is possible), and help prevent you from making a serious behavioral error, like selling everything in a short term market decline.

This is a long-winded way of saying that it is not about the money, per se, it is about the psyche.
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Re: How much does diligent rebalancing add to a portfolio?

Post by nisiprius » Sat Nov 11, 2017 8:22 am

Ron Scott wrote:
Fri Nov 10, 2017 7:44 am
Rebalancing forces investors to leverage volatility (buy low and sell high). If your 50-50 portfolio drifts to 60-40 as market valuations increase, you sell stocks to bring it back to 50-50, and if there's a recession or market correction and it drifts to 40-60 you buy stocks at a lower price.

Let's say you've used rebalancing diligently for 40 years, throughout the course of your investing life. I on the other hand put half my contributions to savings in stocks and half in bonds, without considering the effect of market volatility on my underlying portfolio, for the same 40 years.

You should end with more money. How much?
The existence of a "rebalancing bonus" is a hotly-debated topic in the forum. I am absolutely convinced of the following things, although there are smart people who don't agree with me. First, although may people say things similar to what you are saying, I don't think it's so. Rebalancing cannot manufacture extra return out of sheer volatility, and it is not a magic market-timing formula that consistently results in your buying low and selling high.

Rebalancing can't create return from random volatility. It can only create return if you assume that there's a pattern to the volatility, and that, over the time interval you are rebalancing, the assets in the portfolio show mean reversion. The rebalancing bonus is only as large or as reliable as the mean reversion is over the time period chosen for rebalancing. Broadly speaking academics seem to believe that stocks are mean reverting over periods of something like 2-5 years, and show momentum over periods of months. If you rebalancing over time intervals during which assets are showing momentum, it will hurt, not help. If you rebalance very frequently, near-continuously as in balanced funds, it will neither hurt nor help because there is no time for either momentum or mean reversion to have much effect.

You can see this very easily if you pick a time period around 2008-2009 during which the Vanguard Balanced Index Fund starts at $10,000, plummets, and returns to exactly $10,000, and compare it to the results of holding its two component funds, Total Stock and Total Bond at 60/40 initially and not rebalancing. The difference in final value is tiny. Furthermore, it is very obvious that the balanced fund dips lower than the unrebalanced holding due to the problem of constantly throwing good money after bad during the plummet.

The mental trap that is easy to fall into is that one's mental picture of rebalancing tends to be buying close to the bottom. For example, we fantasize that rebalancing in 2008-2009 would have resulted in one big stock purchase in March of 2009 when it was at half price. In reality, all rebalancing rules that fire at all will fire at multiple times on the way up and the way down, often at what in retrospect look like "bad times," and you need to pair up gains and losses to see which predominate.

In reality, rebalancing is like any strategy that throws a little randomness into simple buy-and-hold-the-whole-market. Any departure will create a difference, and it is awfully easy to selectively focus on the specific strategies for which the difference was favorable in hindsight.
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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Sat Nov 11, 2017 9:49 am

nisiprius wrote:
Sat Nov 11, 2017 8:22 am


The mental trap that is easy to fall into is that one's mental picture of rebalancing tends to be buying close to the bottom. For example, we fantasize that rebalancing in 2008-2009 would have resulted in one big stock purchase in March of 2009 when it was at half price. In reality, all rebalancing rules that fire at all will fire at multiple times on the way up and the way down, often at what in retrospect look like "bad times," and you need to pair up gains and losses to see which predominate.
Yes. Thank you. Too many comments on rebalancing fall afoul of this. It is disturbing to see the quotes from the Boglehead retirement book that seem to reinforce this fallacy.

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Re: How much does diligent rebalancing add to a portfolio?

Post by TheTimeLord » Sat Nov 11, 2017 9:58 am

http://beta.morningstar.com/videos/6153 ... ncing.html
Christine Benz: Investors who are using a strategic asset allocation plan and doing that rebalancing--if they are looking at their asset allocation right now, it probably calls for doing some rebalancing into bonds. Would you say: Just do it, just go ahead and buy bonds at this juncture, even though the prospects, as you say, aren't that exciting?

Jack Bogle:
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.

Benz: It helps on the volatility front, generally, when you look at the data.

Bogle: Yes. There is a comfort level for an investor, and a feeling of he's kind of protected, as much as you can be protected in these volatile days. So it's a behavioral problem. Anybody that feels they should rebalance, I think they should rebalance. I wouldn't tell them not to. But I'd say, do it in a little more sensible way than it's done.I wouldn't have some formula: oh my God, I've gone from 60% to 61%. I better get back to 60%. On a given day, that may happen in these markets. So it should be some range. Say you want to stay close to 65%. If you get below 60%, you can rebalance. If you get above 70%, you rebalance. And you try and not do it not with any great frequency.

Benz: So if you do it, set really wide bands …

Bogle: Wide bands. That's actually a decently wide band. And you can set it a little wider or a little narrower. But right down to the decimal point is just foolish, it's over-managing.
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Re: How much does diligent rebalancing add to a portfolio?

Post by nisiprius » Sat Nov 11, 2017 10:03 am

One caution about "diligently."

William J. Bernstein wrote this, and in this case the authority has a special status because he helped to popularize the phrase "rebalancing bonus:"
Is there any reason to believe that, on average, rebalancing will help more than it hurts? Not if we believe that market movements are random. After all, we rebalance with the hope that an asset with past higher/lower than average returns will have future lower/higher than average returns.

Is this actually true? Probably. Recall that over short periods of time asset classes display momentum, but that over periods of time over a year or longer tend to mean-revert....

Rebalance your portfolio approximately once every few years; more than once per year is probably too often. In taxable portfolios, do so even less frequently.
In other words, if there is a rebalancing bonus, it is not the result of diligent hard work. It's not true that the more rebalancing you do, the better. In fact, according to Bernstein, there may be a virtue in laziness. His recommendation is every few years.
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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Sat Nov 11, 2017 10:17 am

TheTimeLord wrote:
Sat Nov 11, 2017 9:58 am
http://beta.morningstar.com/videos/6153 ... ncing.html
Christine Benz: Investors who are using a strategic asset allocation plan and doing that rebalancing--if they are looking at their asset allocation right now, it probably calls for doing some rebalancing into bonds. Would you say: Just do it, just go ahead and buy bonds at this juncture, even though the prospects, as you say, aren't that exciting?

Jack Bogle:
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.

Benz: It helps on the volatility front, generally, when you look at the data.

Bogle: Yes. There is a comfort level for an investor, and a feeling of he's kind of protected, as much as you can be protected in these volatile days. So it's a behavioral problem. Anybody that feels they should rebalance, I think they should rebalance. I wouldn't tell them not to. But I'd say, do it in a little more sensible way than it's done.I wouldn't have some formula: oh my God, I've gone from 60% to 61%. I better get back to 60%. On a given day, that may happen in these markets. So it should be some range. Say you want to stay close to 65%. If you get below 60%, you can rebalance. If you get above 70%, you rebalance. And you try and not do it not with any great frequency.

Benz: So if you do it, set really wide bands …

Bogle: Wide bands. That's actually a decently wide band. And you can set it a little wider or a little narrower. But right down to the decimal point is just foolish, it's over-managing.
That conversation is a perfect example of the garbage you get when you try to attend to specific comments of Mr. Bogle without having firmly in mind the larger context. The larger context is that Mr. Bogle adamantly urges everyone to take risk appropriate to their circumstances and in particular not to take too much risk. He even recommends a specific formula for what asset allocation might be wise for anyone (age in bonds). If you take his first response and understand that to mean you should not rebalance, then you have to literally conclude that you should watch your investments drift over time to higher and higher stock allocations even when he has told everyone that they should be controlling their allocation in the opposite direction. This is what is meant by garbage in these conversations.

But there is more and the more is very reasonable. Mr. Bogle is discrediting the idea that rebalancing is a tactic to increase return, an idea that comes up on this forum constantly as a misunderstanding. Especially he is discouraging people from making a fetish over rebalancing at small intervals as part of the "work" we should attend to with our investments.

His comment about return vs volatility is baffling. He appears to be saying that not being able to tolerate risk is a "behavioral problem." While there may actually be an argument for that position (I have made it myself.) I think Ms. Benz is finding herself incredulous to actually be hearing Mr. Bogle suggest that returns are everything and risk is trivial, if you take his comments literally.

My own personal conclusion is that I cannot fathom what he is actually trying to say.

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Re: How much does diligent rebalancing add to a portfolio?

Post by TheTimeLord » Sat Nov 11, 2017 10:28 am

dbr wrote:
Sat Nov 11, 2017 10:17 am
TheTimeLord wrote:
Sat Nov 11, 2017 9:58 am
http://beta.morningstar.com/videos/6153 ... ncing.html
Christine Benz: Investors who are using a strategic asset allocation plan and doing that rebalancing--if they are looking at their asset allocation right now, it probably calls for doing some rebalancing into bonds. Would you say: Just do it, just go ahead and buy bonds at this juncture, even though the prospects, as you say, aren't that exciting?

Jack Bogle:
I am in a small minority on the idea of rebalancing. I don't think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That's the way the capital markets work. Not in every 10-year period, or even for that matter every 25-year period. But the higher-returning asset you're getting rid of to go into a lower-returning asset, so it dampens your returns, and the differences turn out to be, if you look at 25-year periods, very, very small. And sometimes rebalancing improves your returns. Sometimes it makes them worse.

Benz: It helps on the volatility front, generally, when you look at the data.

Bogle: Yes. There is a comfort level for an investor, and a feeling of he's kind of protected, as much as you can be protected in these volatile days. So it's a behavioral problem. Anybody that feels they should rebalance, I think they should rebalance. I wouldn't tell them not to. But I'd say, do it in a little more sensible way than it's done.I wouldn't have some formula: oh my God, I've gone from 60% to 61%. I better get back to 60%. On a given day, that may happen in these markets. So it should be some range. Say you want to stay close to 65%. If you get below 60%, you can rebalance. If you get above 70%, you rebalance. And you try and not do it not with any great frequency.

Benz: So if you do it, set really wide bands …

Bogle: Wide bands. That's actually a decently wide band. And you can set it a little wider or a little narrower. But right down to the decimal point is just foolish, it's over-managing.
That conversation is a perfect example of the garbage you get when you try to attend to specific comments of Mr. Bogle without having firmly in mind the larger context. The larger context is that Mr. Bogle adamantly urges everyone to take risk appropriate to their circumstances and in particular not to take too much risk. He even recommends a specific formula for what asset allocation might be wise for anyone (age in bonds). If you take his first response and understand that to mean you should not rebalance, then you have to literally conclude that you should watch your investments drift over time to higher and higher stock allocations even when he has told everyone that they should be controlling their allocation in the opposite direction. This is what is meant by garbage in these conversations.

But there is more and the more is very reasonable. Mr. Bogle is discrediting the idea that rebalancing is a tactic to increase return, an idea that comes up on this forum constantly as a misunderstanding. Especially he is discouraging people from making a fetish over rebalancing at small intervals as part of the "work" we should attend to with our investments.

His comment about return vs volatility is baffling. He appears to be saying that not being able to tolerate risk is a "behavioral problem." While there may actually be an argument for that position (I have made it myself.) I think Ms. Benz is finding herself incredulous to actually be hearing Mr. Bogle suggest that returns are everything and risk is trivial, if you take his comments literally.

My own personal conclusion is that I cannot fathom what he is actually trying to say.
From what I have read or seen in video, Mr. Bogle seems steadfast, to me. in the belief that the best investment you can make is in equities and you only hold bonds to prevent you from making behavioral mistakes when things get tough. Although he does sanction a little market timing in extreme cases too. Essentially isn't that the essence of the message behind quotes like the ones above? His message to me seems to be invest in the market and go about your life trusting in the end the market will take care of you.

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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Sat Nov 11, 2017 10:57 am

TheTimeLord wrote:
Sat Nov 11, 2017 10:28 am


From what I have read or seen in video, Mr. Bogle seems steadfast, to me. in the belief that the best investment you can make is in equities and you only hold bonds to prevent you from making behavioral mistakes when things get tough. Although he does sanction a little market timing in extreme cases too. Essentially isn't that the essence of the message behind quotes like the ones above? His message to me seems to be invest in the market and go about your life trusting in the end the market will take care of you.

https://beta.theglobeandmail.com/report ... ndmail.com&
I don't quarrel with that as a generalization though I think that behavioral mistake thing might be a pretty big deal. I also have misgivings about the idea of just letting everything take care of itself if you really don't have any idea what that outcome might look like.

My advice is that you understand the basics of stock and bond investing, understand the implications for you, and then make your own decisions how to proceed rather than ask other people what you should do, including trying to follow what Mr. Bogle might say.

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Re: How much does diligent rebalancing add to a portfolio?

Post by goingup » Sat Nov 11, 2017 11:07 am

3 people I listen to are not diligent rebalancers. Jack Bogle has said he doesn't subscribe to "slavish" rebalancing. Bill Bernstein has said rebalancing every several years suffices. Taylor Larimore uses 10% bands in his portfolio.

The message I have taken away is don't tinker. It's OK to let your portfolio drift. In our personal portfolio we are still contributing so it's easy to add to the underweight assets.

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Re: How much does diligent rebalancing add to a portfolio?

Post by TheTimeLord » Sat Nov 11, 2017 11:14 am

dbr wrote:
Sat Nov 11, 2017 10:57 am
TheTimeLord wrote:
Sat Nov 11, 2017 10:28 am


From what I have read or seen in video, Mr. Bogle seems steadfast, to me. in the belief that the best investment you can make is in equities and you only hold bonds to prevent you from making behavioral mistakes when things get tough. Although he does sanction a little market timing in extreme cases too. Essentially isn't that the essence of the message behind quotes like the ones above? His message to me seems to be invest in the market and go about your life trusting in the end the market will take care of you.

https://beta.theglobeandmail.com/report ... ndmail.com&
I don't quarrel with that as a generalization though I think that behavioral mistake thing might be a pretty big deal. I also have misgivings about the idea of just letting everything take care of itself if you really don't have any idea what that outcome might look like.

My advice is that you understand the basics of stock and bond investing, understand the implications for you, and then make your own decisions how to proceed rather than ask other people what you should do, including trying to follow what Mr. Bogle might say.
I believe for the most part Mr. Bogle advice is designed so that even those with a little to no understanding of investing can be successful. I think it is intentionally an extremely simple recipe and probably assumes one's lack of financial sophistication could lead to very painful behavioral mistakes. Just as trying to pick active mutual funds on past results or chasing returns could. To some extent I think he may come at this from a standpoint that ignorance is better than imperfect knowledge and everyone's knowledge is imperfect. So ignorance is bliss so to speak. Add to that he is not a financial planner nor is he presenting a financial plan, but merely offering his perspective on what is the most efficient and likely successful path to investing for the masses and to me the pieces fall into place.
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Re: How much does diligent rebalancing add to a portfolio?

Post by dbr » Sat Nov 11, 2017 11:20 am

TheTimeLord wrote:
Sat Nov 11, 2017 11:14 am
dbr wrote:
Sat Nov 11, 2017 10:57 am
TheTimeLord wrote:
Sat Nov 11, 2017 10:28 am


From what I have read or seen in video, Mr. Bogle seems steadfast, to me. in the belief that the best investment you can make is in equities and you only hold bonds to prevent you from making behavioral mistakes when things get tough. Although he does sanction a little market timing in extreme cases too. Essentially isn't that the essence of the message behind quotes like the ones above? His message to me seems to be invest in the market and go about your life trusting in the end the market will take care of you.

https://beta.theglobeandmail.com/report ... ndmail.com&
I don't quarrel with that as a generalization though I think that behavioral mistake thing might be a pretty big deal. I also have misgivings about the idea of just letting everything take care of itself if you really don't have any idea what that outcome might look like.

My advice is that you understand the basics of stock and bond investing, understand the implications for you, and then make your own decisions how to proceed rather than ask other people what you should do, including trying to follow what Mr. Bogle might say.
I believe for the most part Mr. Bogle advice is designed so that even those with a little to no understanding of investing can be successful. I think it is intentionally an extremely simple recipe and probably assumes one's lack of financial sophistication could lead to very painful behavioral mistakes. Just as trying to pick active mutual funds on past results or chasing returns could. To some extent I think he may come at this from a standpoint that ignorance is better than imperfect knowledge and everyone's knowledge is imperfect. So ignorance is bliss so to speak. Add to that he is not a financial planner nor is he presenting a financial plan, but merely offering his perspective on what is the most efficient and likely successful path to investing for the masses and to me the pieces fall into place.
So based on that, what stock/bond (and/or other) asset allocation have you adopted and why? Your comments may be helpful to others if you were willing to make them.

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Re: How much does diligent rebalancing add to a portfolio?

Post by TheTimeLord » Sat Nov 11, 2017 11:42 am

dbr wrote:
Sat Nov 11, 2017 11:20 am
TheTimeLord wrote:
Sat Nov 11, 2017 11:14 am
dbr wrote:
Sat Nov 11, 2017 10:57 am
TheTimeLord wrote:
Sat Nov 11, 2017 10:28 am


From what I have read or seen in video, Mr. Bogle seems steadfast, to me. in the belief that the best investment you can make is in equities and you only hold bonds to prevent you from making behavioral mistakes when things get tough. Although he does sanction a little market timing in extreme cases too. Essentially isn't that the essence of the message behind quotes like the ones above? His message to me seems to be invest in the market and go about your life trusting in the end the market will take care of you.

https://beta.theglobeandmail.com/report ... ndmail.com&
I don't quarrel with that as a generalization though I think that behavioral mistake thing might be a pretty big deal. I also have misgivings about the idea of just letting everything take care of itself if you really don't have any idea what that outcome might look like.

My advice is that you understand the basics of stock and bond investing, understand the implications for you, and then make your own decisions how to proceed rather than ask other people what you should do, including trying to follow what Mr. Bogle might say.
I believe for the most part Mr. Bogle advice is designed so that even those with a little to no understanding of investing can be successful. I think it is intentionally an extremely simple recipe and probably assumes one's lack of financial sophistication could lead to very painful behavioral mistakes. Just as trying to pick active mutual funds on past results or chasing returns could. To some extent I think he may come at this from a standpoint that ignorance is better than imperfect knowledge and everyone's knowledge is imperfect. So ignorance is bliss so to speak. Add to that he is not a financial planner nor is he presenting a financial plan, but merely offering his perspective on what is the most efficient and likely successful path to investing for the masses and to me the pieces fall into place.
So based on that, what stock/bond (and/or other) asset allocation have you adopted and why? Your comments may be helpful to others if you were willing to make them.
There's the kicker I am as guilty as anyone else of taking the pure simple advice of Mr. Bogle and complicating it. Also, I like many people don't have the 40-50 year timeframe he often references so again an excuse to deviate. I will try to explain my plan/AA and hopefully those who see its contorted state will run not walk to Mr. Bogle's simplicity.


Caveat: Here is a simplified explanation of my plan. Please understand you would have to be very near to FI/Retirement to execute such a plan. Plus this reflects my values and tolerances which are likely very different from your own. Bottom line get your own plan don't copy mine.


First, since I value the first 10 years (arbitrary time period for which I assume I will remain vital, but this is planning not execution) of retirement far more than the rest of my retirement years and because the bigger danger to one's success in retirement is a prolonged Market downturn at the beginning of retirement I set aside 10 years of expenses in very safe Fixed Income assets.

Second, I set a target for the amount of equities I want to hold in absolute dollar terms. I will make every effort to remain at or above this level until FRA providing I don't have to draw from the funds set aside in the first step.

Third, I take the emainder of my portfolio above those 2 dollar amounts and keep them invested at an AA of 50/50 because I keep going back on forth as to whether be aggressive or conservative with AA I have ended up at the 50/50 AA until I am less wishy-washy.

So I have
$X dollars set aside in safe FI to cover the first 10 years
$Y dollars dedicated to equities so I can participate in market gains
(Portfolio Value in $) - $X -$Y is invested currently 50/50 because I am so darn wishy-washy

I would be happy to hear any comments. Hopefully I have conveyed my plan clearly enough that people will be able to freely ridicule it in their leisure.
IMHO, Investing should be about living the life you want, not avoiding the life you fear. | Run, You Clever Boy! [9085]

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Re: How much does diligent rebalancing add to a portfolio?

Post by CULater » Sat Nov 11, 2017 3:18 pm

Mathematically, rebalancing reduces terminal wealth by neutralizing the effect of compounding within the portfolio. It reduces the impact of compounded gains from the highest returning assets and the impact of reverse compounding on the lowest returning assets. As such, it narrows the distribution of terminal compounded portfolio returns. This makes it more likely that the portfolio will achieve positive returns, but at the expense of truncating the positive right tail of the return distribution. Translated: rebalancing is likely to reduce the risk of really bad outcomes at the same time it reduces the chances of really good outcomes.

Rebalancing is a better viewed as a "diversification management" technique because it maintains the investor's intended level of portfolio diversification. To the extent that controlling diversification for a given asset allocation has an impact on portfolio risk, it is viewed as a risk management technique. Rebalancing would do little to control risk in a portfolio that is 100% invested in assets with highly correlated returns (since it is poorly diversified), but would have a much greater effect for a portfolio containing assets with relatively low correlations (well diversified).

For example, from 1975-2017 there is virtually no difference in returns and risk-adjusted returns for a 50/50 allocation between the U.S. and Foreign Developed stock markets which is rebalanced vs. not rebalanced. High correlation between these assets. By comparison, there is a significant difference between rebalanced and not rebalanced portfolios with 50% U.S. stocks and 50% U.S. Treasuries. Low correlation between these assets.

There is no evidence that rebalancing provides a return "premium", absent mean reversion that is captured by the timing of portfolio rebalancing; i.e., you get lucky and trade bonds for falling stocks just before stocks turn, or vice versa. So, anytime you see data for a period during which a rebalanced portfolio had better returns than an un-rebalanced one you need to check two things: did the better returns come because the portfolio, on average, had a higher allocation to risky assets (which could happen because of contrarian stock purchases during bear markets), and/or because the timing of rebalancing within that period happened to be "lucky" by catching mean reversion episodes?
May you have the hindsight to know where you've been, The foresight to know where you're going, And the insight to know when you've gone too far. ~ Irish Blessing

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