How to Keep Your Portfolio on Track
Each fund in the Gone Fishin' Portfolio represents a specific percentage of your total portfolio. But over time, those percentages will change significantly, depending on the performance of the financial markets. For instance, bonds may finish the year higher, and stocks may be lower.
The job of rebalancing is to bring your asset allocation back to its original target percentages. This controls risk. Over the years, it is also likely to deliver a significant performance boost. Why? Because rebalancing requires you to reduce the amount you have invested in the best-performing asset classes and add to those that have underperformed. Since all assets move in cycles, rebalancing forces you to sell high and buy low.
There are essentially two ways to rebalance:
- You can add new money to those funds that have fallen below your target asset allocation.
- You can sell a portion of the funds that have risen above your target percentage and add the proceeds to those funds that have fallen below it.
As investment great John Templeton has said, "To buy when others are despondently selling and to sell when others are avidly buying requires the greatest fortitude and pays the greatest reward."
Don't thwart the power of this strategy by succumbing to the temptation to buy more of your winning funds. Given enough time, each asset class will experience a down cycle. That's when you'll add to them. When they're cheap and out of favor. Not when they're popular and expensive.
That's the beauty of rebalancing. It provides you with a clear discipline of what to sell and when. Remember, it's impossible to predict which asset class will be the best- or worst-performing in any given year. So although international stocks, for example, may have underperformed last year, there is no way of being certain that they won't be one of the top performers this year or next.
And even if an asset class experiences several years in a row of lackluster performance, which is not uncommon, it's important that you not stray from your discipline.
When to Rebalance
You should rebalance approximately once a year. The exact date you do it is not important. But there needs to be an interval of at least a year and a day between each time you set your portfolio and rebalance.
Number one, you’ll avoid paying short-term capital gains taxes by waiting at least a year and a day. (The long-term capital gains rate is a maximum of 15 percent. Short-term capital gains taxes, by contrast, can be as high as 35 percent.)
And second, you’ll avoid paying the 1 percent redemption fee that some funds charge on investments held for less than a year.
In short, the Gone Fishin’ Portfolio requires you to take only one action a year, rebalancing. It not only reduces volatility, it is essential to maximizing your returns. (Studies show that annual rebalancing can enhance portfolio returns about 1 percent a year.) It also helps instill the discipline required for investment success. So do it. And keep doing it, year after year.