More on rebalancing
DEN SOMERA
In investment, “rebalancing” is basically defined as “the process of realigning the weightings of a portfolio of assets,” with the goal of minimizing risk and maximizing returns. The realignment and reallocation are an indispensable process needed in the enhancement of the risk-and-return characteristics of any set or pool of assets.
In stock investing and trading, rebalancing is used to realign the weighing and distribution of stocks in one’s portfolio that will “produce the strongest combination that could bring down risk, at the same time, provide the best possible profit results.”
Over time, even assets of the same class produce different returns, so your stock portfolio’s original allocation changes. For this reason, there is a need for rebalancing, either to recapture the stock portfolio’s original risk-and-return characteristics or improve its risk-and-profitability profile.
Usually, this involves assigning how much of the stocks would come from the “well-established and financially sound companies that have operated for many years as market leader with a big market capitalization,” known as blue chips, and from the stocks with “small capitalization or high degree of risk,” commonly regarded as speculative stocks. The resultant combination is further refined by the weightings of the sectors in the overall market capitalization.
Unfortunately, there is no hard and fast rule that seems to have been devised as a formula to get the best results.
This may be the reason why stock investing and trading is said to be both “an art and a science.” This is why you could win your game and beat the market through “intelligent foresight,” which requires the use of both feel and logic, or either of them, depending on prevailing market conditions.
With that hard to figure out, investors popularly apply the strategy of doing it mechanically on a periodic basis.
Unfortunately, again, even the question of how many times the periodic review is to be undertaken remains debatable. According to studies, there is “no known optimal frequency or threshold when it should be done.”
In theory, selecting a rebalancing strategy is dependent on one’s “willingness to assume risk against expected returns.” This means that rebalancing is very much an individual concern.
Needless to belabor the issue, rebalancing by any method should always be undertaken only to recapture the original level of asset allocation that provided a relatively low level of risk but satisfactory return, due to what is called a “portfolio drift,” which is triggered by changing market conditions.
The other instance why rebalancing should be done is “to make changes to the risk tolerance, time horizon, and financial goals and preferences of one’s stock portfolio.”
In the trading game
Pixiu seemed to have found her proper mix of stocks that realized her trading goals. This has come about not without hard work and great sacrifice. She had to trade everyday and endure the demands of everyday trading – which means spending hours in reviewing the fundamental circumstances and market performances of stocks in an effort to find the right combination.
Table 1 below is the record of transactions of the three active players of the virtual stock trading challenge in Week 13.
The rebalancing efforts changed the profitability profiles of their respective investment portfolios: Pixiu was to retake the number one position with her gain for the week of 4.76 percent, which established a new record performance of 104.79 percent return-on-investment (ROI).
On the other hand, the immediate impact of the efforts of Play Hard and Small Time Trader to rebalance during the week only resulted in further losses.
Bottom line
Play Hard, Small Time Trader and the rest of the players in the game have yet to rebalance further their portfolios by eliminating the poor performers and taking in new stock picks that could boost the winning configuration of their investments.
It is also observed that players (such as HRB2015) who have maintained a high cash balance have so far done better than most of those who have been fully invested. Pixiu’s latest experience, however, proved as well that the profitability profile of one’s portfolio can still be enhanced further even under the currently weak market conditions. The strategy that can help you achieve it is to rebalance.
The overall summary of the performance standings of all the players during Week 13 will be seen next Friday, together with the answer to the question, “When do you sell?”
Den Somera is a licensed stockbroker. The article has been prepared for general circulation for the reading public and must not be construed as an offer, or solicitation of an offer to buy or sell any securities or financial instruments whether referred to herein or otherwise. Moreover, the public should be aware that the writer or any investing parties mentioned in the column may have a conflict of interest that could affect the objectivity of their reported or mentioned investment activity. E-mail address of the writer is den.somera@manilatimes.net
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