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I am looking to invest some income that is currently sitting in my checking account and I've been interviewing fiduciaries. I just got off the phone with somebody who takes 1% of my portfolio's value every year, but in return, they are "non-discretionary," and always looking for ways to rebalance my portfolio.

This made me feel uncomfortable, but I'm not sure why. Maybe it's because I don't trust a human being to be able to "time of the market," and choosing when and how to rebalance seems like a form of "timing the market" to me. If this is ill-informed, let me know how I'm thinking about this the wrong way.

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    Sounds like you need to ask more questions. What anyone here considers "rebalancing" may or may not line up with what the fiduciary means. – glibdud Sep 11 at 22:43
  • @glibdud I wasn't aware that was ambiguous and wish I knew at the time. But he used an example on the phone: If investments in US markets improve, rebalance the portfolio by selling some of that off and investing in external markets that aren't doing as well (sell high, buy low). Of course, this was just an example. What kind of questions should I ask? – Clueless Investor Sep 11 at 22:45
  • Why do you fear "timing the market"? Some people say rebalancing means you are forced to sell high and buy low. You are timing the market in way that you are profiting. – Bernhard Döbler Sep 11 at 23:35
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    If investments in US markets improve, rebalance the portfolio by selling some of that off and investing in external markets that aren't doing as well (sell high, buy low). That's a typical sales pitch. What you want to see is an audited track record. I had one clown show me individual account statements for clients that opened accounts right after a market correction and all had appreciated. You have to be able to discern the used car salesmen from the real deal. Ask family members or trusted professionals (your accountant, lawyer, etc.) if they know of reputable fiduciaries. – Bob Baerker Sep 12 at 0:33
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    Don't pay a "fiduciary" 1% of your portfolio each year. Too much! – gaefan Sep 12 at 11:36
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If the advisor is choosing to "rebalance" in response to market events or predictions like "if investments in US markets improve" I wouldn't call that rebalancing, I'd call it market timing.

Rebalancing typically is done according to a predefined plan and schedule. If you set a target asset allocation and decide that once a year around December you'll rebalance to reach that allocation, there's not really any market-timing going on because you aren't choosing when or how to rebalance based on the market. But if you're doing all kinds of trades when things go up or down, that's not really rebalancing.

It's true there can be a gray area because rebalancing is inherently tied to market performance in the sense that you will be reducing your holdings in whatever did well and increasing them in what didn't do well. So if you say "I'm going to rebalance to my target allocation . . . every day" then that might be indistinguishable from market timing. But still it's relevant whether those decisions are made on an ad-hoc basis or according to a preset plan.

In the end it's always possible to fudge the definitions to consider things as rebalancing if you're willing to fool yourself. Someone trying to lose weight might set a goal to walk a certain number of steps each day, but if they decide to get those steps in by walking to the donut shop they're probably not going to accomplish what they hoped by setting the step goal. Similarly, you can buy and sell all day and tell yourself it's "rebalancing" according to an illusory set of constantly changing requirements, but it won't have the same effect as real, disciplined rebalancing. I would be suspicious of an advisor who engaged in frequent trading but described it as rebalancing.

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  • "...rebalancing is inherently tied to market performance in the sense that you will be reducing your holdings in whatever did well and increasing them in what didn't do well." Why the hell would you ever do that? – Victor Sep 14 at 0:05
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    @Victor If you invest if two things (A and B) evenly and A does significantly better, you are now more exposed to A. Rebalancing brings the exposure back to your target allocation. – D Stanley Sep 14 at 13:19
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    @Victor 'Past results are not indicative of future performance'. If you invest in 10 high-risk tech stocks, and then put the rest of your money in low-risk bonds, then we can assume some of the high risk stocks might pay off, and significantly increase in value. Perhaps even 9 stocks might fail, but the 10th stock skyrockets in value, such that half of everything you have invested in, is now that single company - rebalancing ensures that diversification exists throughout your portfolio's life, and not just at the point of inception. – Grade 'Eh' Bacon Sep 14 at 17:41
  • @Grade'Eh'Bacon - regarding 'Past results are not indicative of future performance' - well: Past results are also not indicative of future reverse performance - that is why I don't take past performance into play, I prefer to act\on what is currently happening - and if the price is still heading up - that is good enough reason to keep holding onto it! – Victor Sep 15 at 0:36
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    @Victor: But that isn't "what is currently happening". That is what has already happened. The reason to rebalance is it is essentially buying low and selling high. In any case, this isn't really germane to the question. The question is not about whether rebalancing is a good idea, it's about the relationship between rebalancing and timing the market. – BrenBarn Sep 16 at 6:41
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The traditional definition of market timing is a trading strategy that attempts to beat market returns by predicting its movements and buying and selling accordingly. Based on that strict definition, rebalancing isn't market timing.

Rebalancing could be considered a form of market timing if the manager is making investment choices (trading). If it's just a matter of maintaining a structural allocation ratio (reducing imbalances) and no predictive component then again, no.

Having taken care of my investing for decades as well as retiring young, 3-4 years ago I interviewed fiduciaries who offered managed money with a fee of 1 to 1-1/2 percent. I had no problem with that if they could demonstrate outperformance, which some did, but most telling for me was how well they outperformed in down markets (lost less). None of the equity portfolios did much better than the market and that was a non starter for me. So I continue to DIY with hedging so that events like 2008 or this March's collapse don't chew up my nest egg.

AFAIC, for a person with 40 years until retirement, 1% a year compounded is a lot of growth to give up without outperformance.

As an aside, discount brokers like Ameritrade, Schwab, etc. offer managed money at reduced rates (well under 1%). The lower the fee the less frequent the rebalancing. I looked at some of these as well with the idea of opening one with the minimum of $5 to $10k and then duplicating their investments on my own, avoiding the management fee. But alas, their performance was even worse than that of the big boys (the aforementioned fiduciaries).

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  • speaking of that, I decided to sign up for vanguard's fiduciary service. I think it's .3% a year, and I was planning on paying for it once, and then waiting years before doing so again. Does that sound like a terrible idea? – Clueless Investor Sep 13 at 1:10
  • @Clueless Investor - I couldn't tell you if it's a good idea or not since I have no clue what you're getting for that fee. Assuming that you're not tied into a long term obligation, 0.3% isn't a fortune, especially if you pay quarterly and can exit at any time. Over time, you should be able to judge its value. – Bob Baerker Sep 13 at 1:16
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Before talking about 'rebalancing', it is probably best to try and define 'balancing' in the first place.

In short, there are different broad categories of assets you can invest in. The most common classifications would be 'equities' [the stock market], and 'debt' [bond market, government GIC's, t-bills - anything that earns interest]. Other categories could exist, most notably 'real estate', but for simplicity we will refer to debt and equity.

Debt typically has lower risk than equity - this is because a debtholder has a legal right to even, pre-determined payments, and must be paid back in full, if possible, at the point of bankruptcy. Because it is lower risk, it also has a lower rate of return.

Equity typically has higher risk than debt - this is because when you own shares, you only have a right to dividends that the company choose to pay, and at the time of bankruptcy, you would only get anything back if all other debtholders etc. have been paid out [very unlikely]. The tradeoff is that only equity holders truly reap the reward of profits from the company, and if the value of a company's future earnings doubles, then the value of its shares would theoretically also double.

One common piece of advice is to invest in a balance of debt and equity. How much of each you hold should depend on your risk tolerance, and specific circumstances like the time until you need the cash. [ie: if you want to buy a house in 5 years, don't invest in equities, because the market might dip when you need a down payment. Or, if you are going to retire in 10 years, consider reducing your equities and increasing your debt holdings so that you can more safely retire].

The balance that is right for you would depend on many things - but let's assume that you talk with a qualified advisor who is acting in your best interest, and they suggest you hold 30% debts and 70% equities. For simplicity, let's assume you have 50k in money to invest, so you would have 15k in lower-risk interest-bearing investments, and 35k in equities. After a year, you look at your portfolio - perhaps your debt holdings are worth still 15k, but your equity holdings are now worth 40k, because some shares you held increase in value. Rebalancing your portfolio would mean you would sell about 1k of your equities and buy about 1k of interest bearing investments, so that you maintain a 30%-70% split

In a way, rebalancing is actually avoiding 'timing the market', because it requires you to set, in advance, a series of rules that adjust your investment mix, instead of saying at some point 'I think the stock market is undervalued at the moment - I'll liquidate my bonds and keep buying stocks instead'.

Whether it makes sense or not is not an objective fact, but it is common advice that exists to make sure that you don't look at your portfolio in 10 years and realize that 95% of your investments are high-risk equities.

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  • Gee, I wouldn't mind that - start with 70% or $35,000 in equities, and in 10 years time that $35,000 in equities has grown to $285,000 (95% with $15,000 or 5% in debt). That means my total portfolio would have increased by 600% in 10 years! – Victor Sep 15 at 0:51
  • That last comment isn't really related to the hypothetical example further above, but sure, why not. The point remains - can you not see the risk mitigation benefit of reducing such an equity-heavy portfolio and take on some lower risk asset classes? – Grade 'Eh' Bacon Sep 15 at 0:53
  • You are kidding, right? If you had rebalanced every year to keep a 30:70 balance and were lucky to make 10%p.a. you would have under $130,000 after 10 years. Which is the higher risk? You have potentially lost $170,000+, that is an increase in risk. I am not saying to never sell what has increased considerably in the past, but what I am saying is to let the market decide when you get out of those winners and not base it simply on past performance! – Victor Sep 15 at 0:59
  • Who is doing the fortune-telling here? You are saying to sell out of something purely because it has performed well in the past - you are saying because it has performed well in the past it will not perform well in the future - and that is the whole problem with rebalancing - it is a form of fortune-telling! – Victor Sep 15 at 1:02
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    @Victor Once again you are assuming "has fallen" = "is still falling". – Grade 'Eh' Bacon Sep 15 at 12:57
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Rebalancing a portfolio makes no sense if you really think about it. You are selling off your winners to buy more of your losers.

Take Tesla as an example. In mid-Feb it made a high of $180 then dropped to $100 in early March. Someone rebalancing their portfolio might think that Tesla is now selling at a discount so might sell off another stock that is considered overpriced to buy Tesla shares and re-balance their portfolio. But Tesla keeps dropping for another 2 weeks to a low of $85.50 by mid-March. The strategy might be if the price doubles they will sell some off to rebalance the portfolio and if it drops further they will buy more. The price does start going back up and reaches $200 in mid-June. So now this person will sell-off their Tesla share because they are considered overpriced and buy something else dropping in price and considered cheap.

However, by selling Tesla at $200 they have missed the price rising further to a high of $442.70 in late August.

So a better and very simple strategy after doing fundamental analysis and thinking Tesla would be a good share to buy is to buy only after the price has risen 20% above its low and only sell once the price drops below 20% below its high.

So in this case the low was $85.50, so 20% above this is $102.60 in early April. The shares reached a high of $442.70 in late August, so 20% below this is $354. The price has recently dropped to a low of $368.60 so you would still be holding onto it. You can also place automatic stop-buy and stop-loss orders in the market so that you don't miss an opportunity to get in and one to move out if the price starts moving quickly. If the price continues to fall next week and goes lower than $354 you will automatically get out and make over $150 per share more than the rebalancing strategy, but if it reverses and keeps going up even further you will make even more. You will also only buy so-called cheap shares once they start moving up, avoiding buying into a collapsing share price. So you only buy into and sell out of the market when the market tells you to. This way your emotions don't get in the way of your trading decisions.

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  • How often would you rebalance your portfolio of you own single stocks? If you own mutual funds you would rebalance once every year so you own the funds long enough that you don't have to pay additional taxes for selling too quickly. This, of course, is dependend on jurisdiction etc. – Bernhard Döbler Sep 13 at 0:31
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    @BernhardDöbler - I would never rebalance a portfolio, as I said at the start of my answer, rebalancing is a joke, it is the worst thing you could do to any portfolio. You get rid of something that is going well and keeps increasing in price and then replace it with something else that you consider cheap (because it is priced less now than it was before) with no idea when the price is going to stop falling. The example I showed with Tesla can be applied to many other assets traded on an open market for someone with a medium to long term outlook. – Victor Sep 13 at 8:02
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    @Victor I don't mind hearing about "alternate strategies" but I'm not a fan of calling a well-used, established financial principal "a joke". – D Stanley Sep 14 at 13:21
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    I've never heard of anyone 'rebalancing a portfolio' buying specific stocks to make up for their losses - I have only ever heard it to refer to rebalancing between the mix of diversified equities vs diversified debt instruments. This is a shrewd misrepresentation of what is meant by rebalancing. – Grade 'Eh' Bacon Sep 14 at 17:23
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    In addition to being hogwash, this doesn't answer the question. The question is not "what is a good strategy for buying stocks". The question is what is the difference between rebalancing and market timing, and your answer does not even remotely address that. You are just giving random advice about how to do stock trading. – BrenBarn Sep 16 at 6:45

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