Why you probably shouldn’t rebalance your portfolio this year

By: autoritywizarda on 5:38 PM

Every year, we are reminded to rebalance our stock portfolios. This year, maybe we shouldn’t.
After five lackluster years, foreign stocks are finally showing signs of life. MSCI’s EAFE (Europe, Australasia and Far East) index of developed markets jumped 9.7% in 2015 through Wednesday and its emerging-markets index was up 4.9%, outpacing the S&P 500’s 3.6% gain.
If we are seeing the long-awaited revival of foreign stocks, this rally has only just begun—and rushing to rebalance, by lightening up on foreign stocks, could hurt your returns.
Don’t get me wrong: I am a big fan of rebalancing. The idea is to set target percentages for your portfolio’s various investments.

You might earmark, say, 40% for bonds, 35% for U.S. stocks, 20% for foreign developed-market stocks and 5% for emerging-market stocks. Thereafter, you would occasionally do a little buying and selling to bring your portfolio back into line with these targets.

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Rebalancing is often pitched as a single strategy, but it really has two distinct parts. First, there is rebalancing between stocks and more-conservative investments, such as bonds and money-market funds. This is about keeping your portfolio’s risk level under control, and you should probably do it every year, including this year.
But there also is a second type of rebalancing, which involves moving money among stock-market sectors. This rebalancing also controls risk—but it has greater potential to enhance returns, as different parts of the global stock market cycle in and out of favor.
Let’s say you had earmarked 70% of your stock portfolio for U.S. shares and 30% for foreign stocks. After the recent gains, your international holdings might be at 32%. Rebalancing would compel you to cut that back to 30% and move the proceeds into U.S. shares.
No doubt many investors would find it gratifying to take some profits after the grudging gains of the past five calendar years. Over that stretch, MSCI’s EAFE index had a cumulative total return of less than 30% and its emerging-markets index was up just 9%, while the S&P 500 soared 105%.
But it may be premature to sell foreign stocks. “Should you be rebalancing this year?” asks investment adviser William Bernstein, author of “The Intelligent Asset Allocator.” “It’s a matter of personal taste. But my bias is somewhat against it.”
Bernstein notes that foreign stocks still are cheaper than U.S. shares. On top of that, if we are early in the rebound, foreign shares could benefit from investment momentum.