Portfolio Rebalancing: Four Additional Benefits

Rebalancing a portfolio involves adjusting the allocation of assets to bring it back in line with your original investment strategy, ensuring it remains consistent with your risk and return profile. Why is this important? Over time, certain assets or sectors in your portfolio may grow faster than others, causing your overall asset allocation to shift. Rebalancing helps prevent any single investment or asset class from becoming too dominant, ultimately helping to manage and control risk. No matter how promising a particular company, industry or asset class might appear, maintaining an appropriate balance according to your risk profile can help to protect your investments from excessive downside exposure.

Regular portfolio reviews and adjustments are essential for effective diversification and asset allocation. However, consider that rebalancing can offer benefits beyond just managing risk, and here are four:

1. Helps to Keep Emotions in Check — Rebalancing can help remove emotion from buy-and-sell decisions by basing them on objective criteria, like asset allocation, rather than on market sentiment. While the principle of “buy low and sell high” seems straightforward, it may be challenging to follow in practice. Often, stocks are priced low during market downturns when sentiment is at lows and investors are focused on selling, not buying. Conversely, in times of market euphoria, investors may hesitate to sell.

2. Enables Strategic Capital Deployment — Rebalancing doesn’t always mean selling assets. At times, simply redirecting new cashflow to underweighted asset classes can help to bring a portfolio back into balance. This approach offers the added discipline of focusing on potentially undervalued asset classes or sectors, supporting the “buy low” principle by positioning new investments in areas that need more weight in the portfolio.

3. Balances Gains with Losses — If rebalancing requires selling part of an overweight position, keep in mind that gains realized outside of registered plans are subject to capital gains tax. To reduce this tax liability, consider offsetting gains by selling positions with losses. Alternatively, if you want to hold the position, you could buy it back after a 30-day waiting period under the superficial loss rules. Or, a previous net capital loss can be carried forward to the current tax year to offset gains. Within registered plans, there will be no tax implications if securities are traded and funds remain in the plan, making asset location an additional consideration when rebalancing.

4. Manages a Potentially Higher Capital Gains Inclusion Rate — With potential increases to the capital gains inclusion rate,* an approach to rebalancing can help spread out the realization of gains over multiple years rather than all at once. This strategy could allow investors to take advantage of the lower inclusion rate for realized gains up to $250,000 each year (for individuals).

Beyond asset allocation, rebalancing offers additional potential benefits that can strengthen your overall portfolio and wealth management. If you’d like to discuss rebalancing, or any other aspect of your portfolio strategy, please feel free to reach out.                                          *At the time of writing, the implementation bill has not achieved royal assent.