Research indicates that rebalancing when the relative weightings are far out of whack produces better results than calendar-based rebalancing. For instance, Gobind Daryanani recommends tolerance bands of 30%.

I find it interesting that in the current market crisis, there are a greater number of clients looking to rebalance than those that did in 2008-2009. This might be because of our frequently repeated policy: “Always expect volatility from stocks, and when (not if) stock markets get ugly, expect us to rebalance.” Some clients are downright enthusiastic about buying now.

A couple of years ago I wondered, “If holding is good and buying is better during a bear market, would buying even more be even better?” My business partner Mike Salmon and I looked at the question and wrote a paper, “Analyzing the Effects of Aggressive Rebalancing During Bear Markets,” which was accepted in mid-2019 and published in the January issue of the Journal of Financial Planning. We wanted to see what would happen if instead of rebalancing back to a 50/50 target, we increased the equity target to 60/40 as soon as stocks declined 20%—reaching the “bear” threshold.

Historically, it turns out that getting more aggressive usually helps, but only a little. In most past bear markets, the portfolio recovered a month or two earlier than it would have had it been rebalanced back to 50/50 or not rebalanced at all. However, when we looked at more severe downturns and set a 40% market decline as a trigger, the improvements were substantial.

Keep Calm And Carry On
We don’t advocate “aggressive rebalancing,” as we dubbed it, to be any advisor’s standing policy. More research needs to be applied to the concept. And rebalancing after a 40% market decline is something few clients can or would do. In 2008, the shift to a 60/40 target required selling 40% of a bond position and increasing equities by 78% of their pre-rebalance value.

Nonetheless, in a time when clients want to “do something,” our study suggests that rebalancing during a bear market will not likely hurt much more than doing nothing. But the study also suggests advisors can’t fix a bad situation through portfolio adjustments. Other actions financial planners recommend to clients—such as saving more, spending less, managing taxation or working longer—should be more impactful.

The point of having financial planning policies is to define and encourage necessary actions that can be tough to execute. If you didn’t have a rebalancing policy before this, it is not too late to establish one and communicate it to clients. You will surely need it at some point. This bear may not be done, and another one will surely come. 

Dan Moisand, CFP, is an independent financial advisor. He practices in Melbourne, Fla. You can reach him at [email protected].        

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