Portfolio rebalancing: A private banker's secret weapon

Portfolio rebalancing: A private banker's secret weapon


Private bankers are thought of as some of the most prestigious professionals in the world. We hear about their fancy lunchtime meetings, and we know all about the billions of dollars under their control in exclusive swiss banks accounts. But what actually is the value of the service that they’re offering? And why is it that rich people keep on trusting them with their money?

Well, just like every other service-related job that proliferated in the 20th century, the value of the service can be tied back to the same fundamental thing: they do the repetitive manual grunt work for their customers.

Service industries across the board have flourished in situations where a little bit of hard work is required, but where people would rather pay someone else to do it. Private banking is no different. Do rich people polish their own shoes? Nope, they just pay someone else to do it. Similarly, do rich people manage their daily money matters? Nope, they just pay someone else to do it.

When you boil it down then, the specific, manual grunt work that a private banker offers to their clients is something called ‘portfolio rebalancing’. This is a simple service that they’ve been practising for decades, and it’s valuable because it’s manual and it’s time consuming. Rich people know how to do it, but they would rather pay their banker to do it for them.

The magic of rebalancing: There is no magic

Portfolio rebalancing has nothing to do with generating market-beating returns, and it has nothing to do with generating wealth in the first place. Portfolio rebalancing is a simple mechanism to mitigate investment risks. It is a mechanical process to assess and adjust an existing portfolio, in order to keep it on track with the original plan. Doing this one simple and mechanical process, however, is extremely valuable because it’s a proven way to give you a higher chance of achieving your investment targets.

The process of rebalancing goes something like this: Once you’ve created your investment plan and allocated your portfolio (as per your asset allocation target) your portfolio will naturally fluctuate over time. This is exactly what you’d expect to happen - the riskier assets should fluctuate more, and the safer assets should fluctuate less. Throughout the years, some of the positions might go up and some might go down, and as a result of this your asset allocation is likely to change vs. your initial asset allocation target.

The process of rebalancing is therefore pretty straightforward - it’s the process to shift your portfolio back to the initial asset allocation target. You do this by selling the assets that have increased, relative to the rest of the portfolio, and by buying those that have decreased, relative to the rest of the portfolio. The goal of rebalancing is not to maximise additional returns, but to minimize your unnecessary risk and there are two key benefits from this:

1. Rebalancing keeps your wealth on track, so that you can sleep (like a baby!) at night. Given that your investments will naturally deviate over time from the initial target asset allocation, this could be detrimental to you achieving your ultimate goals. This is because without rebalancing, it would result in you taking on too much / too less risk vs. the original plan. Rebalancing helps you to maintain your original asset mix so that you can stay on track with the original plan.

2. The mechanical process of rebalancing actually forces you to ‘buy low and sell high’. How does this happen? Well, when a particular asset increases in value, its share of the total investment portfolio increases. At this point, the process of rebalancing means that you’d sell down some of this asset (in order to bring it back down in line with the target allocation). In other words, rebalancing creates a mechanical trigger for you to sell an asset once its price is relatively high. And the reverse is true when an asset decreases - when the price of an asset falls, then its share of the portfolio will decrease. At this point, the process of rebalancing would kick in and force you to buy more of these relatively cheaper assets.

It's simple, although it's still hard work…

Here are the steps that you can take in order to rebalance your portfolio, without the need of a private banker:

Firstly: Start by reviewing your target asset allocation for your portfolio. We covered asset allocation in a previous blog - investors need to have the right mix of stocks and bonds depending on where they are in their investment journey.

Secondly: You need to review your portfolio’s current asset allocation. By comparing the share in your portfolio for each of the assets (i.e. the share of stocks and bonds) vs. your target share, you can calculate how much your portfolio has drifted off.

Thirdly: If your current position has drifted off by more than a predetermined threshold (e.g. 5%) then you need to sell the overweight assets and buy the underweight assets. i.e. you sell the first asset and use the proceeds to buy the other one.

Fourthly: Repeat the first three steps... everyday! Yep, there’s the potential for your portfolio to drift from the target each day that the markets trade. This means that the boring, mechanical work of portfolio rebalancing needs to be done daily.

The benefits of the 21st century vs. the 20th century

As with many other services that we use throughout our daily lives, technology can step in to do the repetitive, manual work for us. At Teyk we’ve created the ultimate technology-driven investment platform, which includes automatic and personalised portfolio rebalancing at no extra cost.

And we’ve even gone one better than the traditional private bankers - we are the world’s first investment platform with performance-only fees. And so unlike traditional advisors, we only charge fees when our investment advice delivers positive returns.

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