Rebalancing your portfolio is a key part of maintaining your desired asset allocation and managing risk over time. It involves adjusting the proportion of different assets (e.g., stocks, bonds, cash) in your portfolio to match your original investment strategy.

Why Rebalancing Is Important:

1. Maintains Risk Tolerance:
   • Over time, certain assets may perform better or worse than others, causing your portfolio to drift away from its original allocation. For example, if stocks perform well, their share of your portfolio may increase, exposing you to more risk than you initially planned.
   • Rebalancing helps keep your portfolio in line with your risk tolerance. If you wanted 60% stocks and 40% bonds but stocks have grown to 70%, you may be taking on more risk than intended.
2. Locks in Gains:
   • By rebalancing, you effectively sell high-performing assets (locking in gains) and buy underperforming ones, which could be undervalued and provide future growth. This helps in following the principle of “buy low, sell high.”
3. Disciplined Investing:
   • Rebalancing forces you to stick to your long-term strategy, avoiding emotional reactions to market ups and downs. It encourages a structured approach to managing your investments.

How to Rebalance Your Portfolio:

1. Set a Review Schedule:
   • You don’t need to rebalance frequently. A good rule of thumb is to review your portfolio every 6-12 months or if your allocation drifts by 5-10% from your target.
2. Evaluate Asset Allocation:
   • Compare your current portfolio allocation (e.g., 70% stocks, 30% bonds) with your original target (e.g., 60% stocks, 40% bonds).
   • If any asset class has significantly deviated from your target, it’s time to rebalance.
3. Rebalancing Methods:
   • Selling and Buying: Sell some of the over-weighted assets (e.g., stocks that have grown too much) and use the proceeds to buy under-weighted assets (e.g., bonds that have declined).
   • New Contributions: If you regularly contribute to your portfolio, you can rebalance by directing new money into under-weighted assets without selling anything.
   • Dividends and Interest: Reinvest dividends or interest from your investments into underperforming asset classes to restore balance.
4. Consider Transaction Costs and Taxes:
   • Be mindful of trading fees and capital gains taxes when selling assets. Using tax-advantaged accounts like ISAs or SIPPs can help minimize these costs.

Conclusion:

Rebalancing ensures your portfolio stays aligned with your goals and risk tolerance. By selling over-performing assets and reinvesting in under-performing ones, you maintain a balanced, disciplined investment approach that enhances long-term performance and reduces risk.