Don’t miss this opportunity to increase equity by rebalancing your portfolio!

Published: October 28, 2018 at 11:23 am

Here is why I think this market “correction” is a great opportunity to rebalance our portfolios and increase equity exposure (video version included below). However, this opportunity is available only for this who have a clear target asset allocation. That is how much of the portfolio should be in equity and how much should be in equity income and how this ratio will change year after year as the time to pull out the money nears.

Did you miss the posts over the weekend? No worries, catch up now!

So, I would first suggest that you allocate anywhere between 30-60 minutes without distractions and (1) list your financial goals and (2) Download and use the freefincal robo-advisory template. It will provide the target asset allocation details and then (3) list your existing investments and tag them to different goals. The same investment can also be used for multiple goals – check out this google sheet tracker for such situations.

What is portfolio rebalancing?

Once this is done, then you will know your target asset allocation and your current asset allocation. This is something that you should be aware of at all times. Suppose your target equity allocation is 60% and your current allocation is 55%, then you can redeem 5% of fixed income and shift it to equity. This is known as rebalancing and this is the opportunity that I am referring to.

Read more about rebalancing:

However, such small deviations from a target equity allocation will only occur if you have been investing for several years or just started with an asset allocation in mind from day one. In such cases, the rebalancing is fairly straightforward. Of course for new investors, a 5% deviation would mean thousands of Rs and for older investors, it could mean lakhs. That, however, should not deter anyone from rebalancing.

Just as we book excess equity allocation as “profit” and shift it to safe fixed income for risk reduction, the reverse process allow you to enter equity at market “lows” and will in part offset the return reduction from equity profit booking. So it must be viewed as a natural and essential process.

Many investors go on and on about “sitting in cash” and waiting for the right opportunity. There is really no need to do all that. Regardless of whether you are a equity mutual fund or stock investor, you can always invest with the right asset allocation and simply rebalance periodically.

How often should one rebalance the portfolio?

1: For investors who have just started out with the right asset allocation, once a year should be enough
2: For investors who have been investing for many years now and are kind of in the middle of the goal tenure, twice a year should be fine.
3: For investors who are heavy on fixed income and still have many years (at least 10, preferably more) to their goal, they can use such market corrections, to gradually increase equity exposure.

What about taxes and exit loads?

This may not apply when you move from standard fixed income products to equity, but for the reverse, it will and let it. Your aim is to reduce risk and it should be done without fear of tax or load. If you are so worried, then start rebalancing after 3-4Y after investing then you will be able to minimise this.

The big asset allocation disparity problem

Many 35+ investors who have been investing for 10+ years typically have a fixed income heavy portfolio (excluding the real estate investments!). So equity would be quite low, typically less than 40% and their goals would be 15-20 years away.

This is fine for a start as it is important to get eased into higher and higher equity exposure. This is what I did – went from 0% to 60% equity over the course of about 5-6 years.

The problem here is two-fold. (1) Many such investors do not want to increase equity exposure and they must change their attitude else they may fall short of their goal target.

(2) If they (we) want to increase equity allocation, much of it is locked into EPF which is not liquid. Of course, a good chunk is in PPF(s) as well and there seems to be a reluctance (because it is safe and tax-free) to withdraw from PPF for rebalancing. I think this also needs to change. If age is a reason for the reluctance, that it is fine and someone above 45 is likely to think twice before redeeming for PPF for rebalancing, but I think much younger folk should not worry about this.

Before we consider my situation, here is the video version of this post.

My situation

My retirement goal now has 54.25% equity, down from the target of 60%. It was hovering about 59% for a long while now and this correction took it down further. I would say the fall is not so much (have you checked yours? Let me know in the comments so I can gauge relatively). Will post details about how my portfolio has fared this fall in another post.

Now, much of my fixed income is in my mandatory NPS and that is locked. So the only option is to pull out the little I have in my PPF and try to bring the equity exposure to 60%. I am still wondering (and this is personal and contextual and you need to figure this out for yourselves) if I should do this or simply ride it out.

If I had some exposure to an arbitrage fund or debt fund, then there would have been no question. However, there was no opportunity for me to do this as much of my time was spent in increasing equity to 60%. Hmmm one part of me says, “go redeem your PPF and shift to equity”, and another part of me says, “oh dear, I need to deal with bankers!”. At my age, I also need to worry about removing some corpus from safe assets. It is not an easy decision, but one that requires consideration (along with shifting to index funds!)

For my son’s education/marriage goal, the situation is a lot simpler. In the last couple of years, I have been regularly rebalancing and shifted some portion to arbitrage. So all I need to do now is to shift (only a small %) from arbitrage to equity and the equity exposure will be back up to 60%.

So to summarize, list your goals, use the robo advisory template, determine your target asset allocation, find out your current asset allocation and if necessary, shift from fixed income to equity. Cheers!

Did you miss the posts over the weekend? No worries, catch up now!

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About the Author Pattabiraman editor freefincalM. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. since Aug 2006. Connect with him via Twitter or Linkedin Pattabiraman has co-authored two print-books, You can be rich too with goal-based investing (CNBC TV18) and Gamechanger and seven other free e-books on various topics of money management. He is a patron and co-founder of “Fee-only India” an organisation to promote unbiased, commission-free investment advice. He conducts free money management sessions for corporates and associations on the basis of money management. Previous engagements include World Bank, RBI, BHEL, Asian Paints, Cognizant, Madras Atomic Power Station, Honeywell, Tamil Nadu Investors Association. For speaking engagements write to pattu [at] freefincal [dot] com
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