By David Enna, Tipswatch.com
While returning home from New Zealand a few days ago, I got into an airport conversation with a traveling friend. I mentioned I had a lot of things to do once I got home (about 30 hours later):
“Taxes. Yeah, we have to finish filing our income taxes … plus, we really need to look at rebalancing our portfolio, with stocks at an all-time high,” I said.
My friend, a retired long-time financial adviser, got a shocked look on her face. “Oh, rebalancing! I always advised my clients to do it, but we haven’t done a thing since 2016. We just don’t get around to it.”
As it turns out, that financial adviser’s faux pas was probably a very good thing. Over the last 10 years, the S&P 500 has had an annualized total return of 12.5%, a spectacular performance. Letting your stock allocation ride higher created a lot of wealth.
But my wife and I are conservative investors, so we hold to a plan to maintain a conservative asset allocation by rebalancing our portfolio, when needed, to line up with these goals:
- 23.3% in U.S. stocks (primarily in low-cost total U.S. stock funds)
- 11.7% in international stocks (similar low-cost index funds)
- 61.5% in bonds/fixed income (includes low-cost index funds + TIPS, I Bonds, CDs, nominal Treasurys)
- 3.5% in cash.
This allocation — 35% in stocks and 65% in fixed income/cash — is probably way too conservative for most investors. But this is a reflection of where we are in life. Asset allocation is a very personal thing.
Back in 2018, my wife and I went through a financial planning exercise with Allan Roth, a well-known adviser and author. When I saw that he titled his website “Dare to Be Dull,” I knew we found the right guy. Roth charges by the hour for a one-time, long-term focused plan and then recommends, “fire me.”
During our discussions, I suggested the 35%/65% asset mix and to my surprise, Roth agreed. Why? Because that was our comfort level. Plus, it would work for our needs.
Early on, I offered that we would probably be willing to raise the stock allocation to 40% if he thought that would be better. Roth responded, “OK, if you want to raise your stock allocation, I want you to wait until the stock market declines 20% and then do it.” Hmmm … OK.
As it turns out, I have heard Roth mention this advice many times since then, noting that no client has ever done it in the heat of a bear market. The man is clever. Our asset allocation was fine, and will continue to be fine.
If you want to get Roth’s advice at a very low cost, I suggest buying his book: “How a Second Grader Beats Wall Street.” His writing style is brisk and easy to understand, and he drives home the philosophy of low-cost index investing and simple portfolio structure. I also advise subscribing to his newsletter, which links to his many articles for AARP.com, ETF.com and AdvisorPerspectives.com.
In his book, Roth calls rebalancing “market timing that actually works.”
When you stop and think about it, rebalancing is a systematic way of buying low and selling high. … It forces us out of the ranks of the faux contrarian into the less-traveled ranks of the true contrarian. … Rebalancing forces us to sell some of what’s hot and buy some of what’s not.
Asset rebalancing and asset location are key principals of Roth’s philosophy. By “asset location” I mean optimizing the assets in each of your accounts. For example:
- Taxable brokerage, bank accounts: Ideal for stock holdings because of favorable tax rates on capital gains and dividends. Plus, spendable cash.
- Traditional tax-deferred accounts: Ideal for bond funds, REITS, nominal Treasurys, TIPS, etc., plus any actively managed fund that could generate high capital gains or dividends. Also the place to hold assets you plan to donate to charity. These holdings will eventually be subject to required minimum distributions.
- Roth accounts: Ideal for stock funds, with the assumption that these will be your longest-held assets. These assets will never be taxed, even if inherited.
- I Bonds: A separate category, since interest is tax-deferred but not subject to RMDs. I classify my I Bond holdings as “bonds,” but they have some qualities of cash, since they are protected from loss and redemption is flexible.
By following Roth’s guidelines, we were able to simply our portfolio — one of his key principals. The number of holdings and accounts is much smaller. I can calculate our asset allocation accurately within one hour. How often should this be done? I can’t give a definitive answer, but we do the calculation about three times a year. Sometimes we take actions, many times we don’t.
Here is the history of our rebalancing decisions over the last 4 1/2 years:
A key thing to keep in mind is that you don’t need to hit the percentage marks exactly — being off a few percentage points is fine. The point is to be aware of how market trends are setting your asset allocation adrift. And the rebalancing can be in small moves. For example, when you need to raise cash in retirement, an updated asset allocation can guide your decision. (Truth is, we generally do rebalancing in gradual moves.)
Note that in December 2019 we were close to our asset allocation and no action needed to be taken. But by March 2020 — in the midst of the pandemic-induced market panic — we needed to sell bonds and buy stocks. We did. Since then, the stock market has been on a run higher, so we have sold stocks at times and 1) bought bond funds in tax-deferred accounts, or 2) withdrew money to raise our cash levels, or 3) converted from traditional to Roth accounts.
Both the stock and bond markets took a hit in 2022, which left our asset allocation intact. No action was needed. In more recent times, as the stock market has been rising, we have again lowered our stock holdings and bought bonds — which finally look more attractive.
Not for every investor
If you haven’t rebalanced in recent years, and you hold a large stock allocation, your investments have done a lot better than mine. Congratulations! You just have to realize that your holdings have gotten a bit more risky over time. If your investing timeline is long, that is probably OK.
A lot of investors and financial advisors discourage rebalancing, and in fact that includes the guiding light of investing, Jack Bogle. He said this in an 2013 interview with Morningstar’s Christine Benz:
I am in a small minority on the idea of rebalancing. I don’t think you need to do it. The data bear me out, because the higher-yielding asset is going to be stocks over the long term. That’s the way the capital markets work. …
There is a comfort level for an investor. …. Anybody that feels they should rebalance, I think they should rebalance. I wouldn’t tell them not to. But I’d say, do it in a little more sensible way than it’s done.
I wouldn’t have some formula: oh my God, I’ve gone from 60% to 61%. I better get back to 60%. On a given day, that may happen in these markets. So it should be some range. Say you want to stay close to 65%. If you get below 60%, you can rebalance. If you get above 70%, you rebalance. And you try and not do it not with any great frequency.
A contrary view comes in this video from the Money Guys, Brian Preston and Bo Hanson, who have a popular YouTube channel dispensing solid, no-nonsense advice. They call rebalancing “a skill set that will serve you over the long term,” especially during the draw-down years of retirement:
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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear.Please stay on topic and avoid political tirades.
David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.
Treasury Inflation-Protected Securities 
I use bands for my allocation. 20% of the desired amount. So if I want 20% US stocks, I allow my portfolio to drift between 16-24% US stocks. This prevents too frequent churn and tax consequences, but keeps me in line with my goals. It also avoids the fixed amounts, say +/- 5% for a small allocation that make no sense. If, say you want 5% munis, having a band of 0-10% is just silly. You won’t want it to drop to zero or double before rebalancing. A 20% of the amount band means you let it be from 4-6% of your total portfolio. Only a 20% move up or down triggers a rebalance. That kind of move takes a while, especially with bonds.
I consider myself a conservative investor, and I have a target of a 50/50 stock/bond allocation. Back in the mid 1990’s, when I was working as an investment consultant for a large corporate pension fund, I created a spreadsheet that tested rebalancing strategies using 5% increments between 5 and 20%, using the Ibbotson/Sinquefield data base of monthly stock and bond returns going back to 1926. I was surprised to see that the various rebalancing strategies had negligible impact on portfolio return standard deviation (a measure of risk) and inconsistent but small impact on rates of return up to a 10% rebalancing trigger. At that point, standard deviation did increase significantly with 15 and 20% triggers. Monte Carlo simulation, with millions of data points, could provide a more reliable indication of what one could expect, but these results appear to be indicative of the smoothing effect of long-term volatility that offsets the fluctuation of risk that variations in asset allocation drift create. Individual time horizons are shorter, however, than institutional pension funds, so I keep my asset allocation drift within 5% limits in an abundance of caution.
BTW Net return of Vanguard’s S&P 500 index fund begining in 2000 ending 2014? After inflation and before taxes, zero.. (Dividends reinvested)
Easily verified using Vanguard data and BLS inflation calculator.
Stocks for the long run indeed
Soon after I started Tipswatch in 2011, I started getting comments from a couple of readers on how the stock market had not kept pace with inflation over the last decade. And it was true. Then, of course, the stock market had a nice decade-long run, even after a couple pitfalls. There is a lesson to be learned here. (Now, the opposite may or may not be true.)
TRUE (financial) FREEDOM is structuring it in a way that allows one to TAKE MIND off of it.
3-4 months ago, I felt that fixed income treasuries and TIPS with 5 year duration made TRUE (financial) FREEDOM possible.
Then treasury rates started moving down rather quickly. I found CD’s that were lagging behind offered a good opportunity.
Then CD’s started moving down catching up with term-equivalent treasuries.
I found credit union CD’s were slow to catch the downward trend and presented a great opportunity.
Today, all of them are down by about 20% or so from their highs.
So whoever waited to take advantage of what fixed income had to offer at its best rates has some hand-wringing to do. But still there is opportunity in callable products like brokerage CD’s and GSE’s (not explitly backed up by government but many believe implicitly guaranteed as GSE’s are too big to fail in government estimates it is assumed).
Whoever took advantage can experience the TRUE (financial) FREEDOM of SET and FORGET that fixed income offers!
I find anything but fixed income too much of a hassle as you cannot SET and FORGET in good times and bad – it holds ATTENTION begging TO DO something or other in strategies in good times and bad.
In the end, DEATH and TAXES and INHERITORS!
TIME is limited and BEST thing TO DO is financial freedom when OPPORTUNITY presents……………
Thanks for the thoughtful post. I agree with ALMOST all. For residents of states with income taxation, putting Treasuries in tax-deferred accounts eliminates the bump in Tax Equivalent Yield. While I have heard of investors putting TIPS in those accounts to avoid the taxation challenges, putting nominal Treasuries there is akin to putting Munis or Real Estate in a tax deferred account – you are forgoing the tax saving opportunity.
This is true. But all the money in a traditional IRA will be taxed at the federal and state level at some point in the future. I’d rather have the state tax exemption, but the flexibility of an IRA allows me to buy TIPS without selling other assets in a taxable account … which also leads to taxes.
The other option would be a Roth account. Up to this point, I haven’t purchased TIPS there.
I am thinking aloud and my thinking is still work in progress.
It is true that in current tax year one cannot realize any state tax savings by putting otherwise state tax exempt securities like treasuries, agency bonds etc. in Retirement accounts.
BUT….I THINK :-)………..IF you are in a state tax free state at the time of withdrawal the state tax exemption will apply then.
Unless, my thinking is wrong or my assumption about state tax exemptions does not apply to IRA withdrawals.
I noticed that my Treasury Direct opening page shows that the I-Bond is paying 5.27%, including a fixed rate of 1.3%. However, my I-Bond current holding detail page shows an interest rate of 3.38%. What gives because I was going to reallocate away from the 3.38%?
That particular I Bond has a 0.0% fixed rate and so it is currently earning a variable rate of 3.38% and will eventually transition to the current variable rate of 3.94%. The 5.27% is for I Bonds issued until the end of April with a fixed rate of 1.3% and a variable rate of 1.3%.
What percentage of your bonds are in TIPS? If you have a TIPS ladder that meets your base expenses could you go 100% in the risk portfolio? What’s your asset allocation excluding tips/i bonds?
Curious as I’m still in the accumulation phase and one of the appeals of tips is allowing a higher equity percentage since your baseline expenses are safely covered.
We are retired and we haven’t been in the accumulation phase since 2018. But since 2018 our portfolio value is up 17%. The only true dangers (for us at this time in our lives) are 1) a Black Swan event, and 2) raging inflation. A good allocation in TIPS and I Bonds helps protect against those two dangers.
Since 2018 total market vti is up 2x and total world is up 1.6x, showing the possibilities of stocks. However you seem like you have more than enough with your heavy travel schedule so your equity light strategy has the benefit of little drawdowns — I suspect 2020 didn’t bother you much at all.
I’m 48 so still working and saving but interesting to see how people in retirement manage their portfolio and risk.
1) So why do you separate cash from bonds? Does cash include ALL cash, even upcoming lumpy expenses. How do you decide how much cash to have?
2) As your TIPS ladder matures, your asset allocation should become more stock heavy. Will you still try to maintain a 35/65 portfolio or just accept the upward drift towards end of life? What about rebalancing then?
1) Cash becomes wildly important after you retire and have no “work” income rolling in. I want to make sure our cash supply can outlast and major market disruption. Plus … I’ll be traveling.
2) The 35/65 asset split will continue for the time being.
This is a good topic and I think about it a lot.
My largest financial asset category is my IRA rollover. When I was working I had it all my 401k in Contrafund then my employer dropped Fidelity and I had it in an S&P 500 fund with a family I had never heard of and it lost money. When I retired I didn’t take long to do a rollover and I moved 95% into in money market which is currently ~ 5%. As long money market pays 5% and inflation is at 3%. I am leaving it alone. When MM rates fall to the inflation rate then I might start shifting some into an S&P 500 or even back to Contrafund. But not yet.
For my total portfolio I have overall about 10% in domestic equities and the rest in money market or US Treasury debt securities.
“Is it time to rebalance?”, if anybody knew the answer, the entire blog would be abstract and irrelevant to realities of life. Once somebody knows “time”, the Market is in a standstill and Tipswatching is moot.
“Is it time to rebalance?”, the answer depends on unidentified purpose of the exercise.
“Is it time to rebalance?”
It is Yes, when the reader is preconceived, obsessed or simply enjoys the action, then Yes to any desired frequency.
“Is it time to rebalance?”
It is No, when the reader seeks to improve portfolio performance, the author poor timing of the rebalancing attests to that.
Merrill Lynch whitepaper sets forward analysis of how harmful can be different rebalancing strategies
Click to access PortfolioRebalancingWhitepaper.pdf
It is Maybe, when reader prioritizes and intends to maintain Portfolio Risk Profile.
Strangely enough, Author’s Portfolio is so much Risk aversion biased, that most of the conceivable Market/Income movements
would result in minimal drift and reasonably tolerable adjustment to Risk Profile.
“Is it time to rebalance?”
It is an conjecture, unless the reader personalizes the Values and computes imminently irreversible Asset Deflation!!!
for each $1.00 earned and spend when the reader was 25 years old, the reader will get $0.10 worth of the physician services at the age of 85.
Is true and I agree what you say. Abstract and to make predictions related to investments is subject time is. To do what they feel is right one has.
Honestly, I no longer need to take risk. So why take undue risk? A 35/65 asset split will work fine for my purposes. As I said, the actual percentages are a very personal decision.
Why take undue risk? Warren Buffett once said the same thing, thoough a bit differently.
I get it!
and I don’t question Personal Choices!!!
But, why rebalancing? at 35/65 it makes no dent in Risk Profiling.
It seems that you are doing it for Return but justify by Risk.
One cannot make sound policy out of contradicting goals.
I cannot comment on “timing”,
even some who are “smart”(rather lucky) with Entrance timing can make no durable claims until Exit,
some are Double Lucky with the choice of exit, but most have no reassurance that they not going to be forced to liquidate.
Why do it? To maintain the asset balance of my choice. Simple as that.
I do not rebalance. Have, 40/60cash portfolio starting point. Stock is stock and cash is cash. Cash is the ultimate Beta lowering of your portfolio against the black swan. The allocation is creeping up to 50/50 and some stock allocations are creeping up. Its the stock that gives you more spending money than fixed income. Cash in a taxable account is a tax issue at these high rates. Looking at buying some MYGA. Just a little bit more of income gets your SS taxed at 85%.
Some people misunderstand this point and I would like to provide the following.
85% of the social security payment would count toward annual income and so 85% of the social security received would be taxable in the same way as all other taxable income.
Some people misunderstand and think that the 50% or 85% taxable means that 50% or 85% of their social security would be lost to taxes.
Its the same misunderstanding that your marginal tax bracket is the same rate you pay on all income.
The only managed fund I have ever recommended Vanguard Wellesley Income Fund which maintains 35% stocks and 65% bonds……For the last 50 years a very successful fund.
I have the flip-side of that fund, Vanguard Wellington, and also have owned it for more than 20 years. That is in a taxable account, and it does provide fairly large capital gains distributions every year. It is better in a tax-deferred account (where I also own it).
Retired portfolio
35% world etf -VT or Acwi (This belongs to my children)
65% TIPS ladder plus cash (this is to live from)
Allan Roth reviewed our retirement plan in 2021 and substantially improved it. He advised rebalancing when our stock/fixed income allocation gets 6% out of whack
— pretty easy to follow. I can’t say enough good things about him or your website. I’ve learned a lot from both of you.
https://forum.privateinvestorclub.com/post/investment-principles-12374701
This Vanguard article talks about the frequency of rebalancing. They think that once every year (or longer) is likely optimal. And less frequently if done outside of a tax-advantaged account.
I think once a year is probably right, even though I check our asset allocation about three times a year. I also like to use that information to pinpoint the best place to take withdrawals from the traditional IRA. Two of the actions on my list were withdrawals, five were asset re-allocations.
Also interesting in the article was that they don’t think there is an advantage to rebalancing during turbulent times (when there might be the most inefficiency or when targets may be the most off). Best just to stick to a schedule. But it sounds like it worked well for you in March 2020.
I think it’s ok to have some kind of frequency of rebalancing in my mind but selecting the right times for different parts of the portfolio, to the extent one can time it well, based on macro and economic cycles should be the way. In short, keep it agile, instead of hard coded to some predetermined frequency or timing.
Did you do any Roth conversions?
Here is the odds of one picking a winner. https://www.morningstar.com/markets/how-many-stocks-beat-indexes
The truth is the market has unlimited time, humans do not so you will never beat the market. Unless your 100% in the market anything less leaves you short. If one buys major index funds you will never beat the market. Selling your big winners after you picked the right sector and stock is foolish. Having an asset grow to being outsized allocation is a good thing. All stocks crash when the swan comes, even your good ones. But pullback from a higher level does not hurt as much. Only cash, cash like ibonds can save you and then it’s time to put some liquid cash to work, unless you think the alltime high has happened in your lifetime. Ie: Commercial Reits seem a bargain till they have to redo loans next year, then bombs away.
We disagree, obviously, but if you want to go 95% in stocks and 5% in cash, that is your chosen path. It has worked out great in recent years.
After trying out various portfolio allocations and diversification strategies, I have settled on 90% S&P 500 and 10% in Short Term US Treasuries (3 years of less). This is the famous Warren Buffett portfolio allocation (for his wife!).
What really convinced me was (a) it was something Buffett said, who I take it very seriously, and (b) a paper written by Javier Estrada (https://www.fmaconferences.org/Vegas/Papers/Estrada-FMA-LV.pdf) where he tested the theory by calculating the failure rate (portfolio running out of money in 30 years once the withdrawals started). The results were really eye-opening.
Rather than beating the market, or not, I try to focus on what is a “satisfactory” return that I can expect to help me reach my financial needs/objectives once we retire. If we can get there without beating the market then so be it.
I agree that this is a very personal decision, like Allan Roth recognizes, so there will always be a debate about which allocation is “right”.
Might like to look at the retireearlyhomepage.com What you are proposing worked well for him retiring in 1994. Retiring in 2000 a far different story even up to today. ( check his charts)
@Len
Are you referring to chart in the article https://retireearlyhomepage.com/assetal.html ? If yes, then it seems 75/25 is slightly better when withdrawal rate is 4% or lower, but beyond that, 100/0 allocation beats everything else.
If you were referring to something else, do you mind providing a direct link? There is a lot of information on that site and I am not sure how to quickly find the information supporting your comment. Thanks.
The final chart is if one retired in 2000 instead of 1994. The the 75/25 S&P 500, short term bond allocation ends up at $50,00, same as the short bond alone after 22 years.
https://retireearlyhomepage.com/reallife23.html
I’m in the same boat except for two additional tweaks. Im fortunate enough that my 10% “cash” is approximately 10 years required income. An additional insulation (I hope) from downturns. Also, I’m migrating my 10% “cash” into a 10 year tips ladder. So it’s a 90/10/10/10 strategy. I like the simplicity. I will rebalance yearly and hope that new TIPS are available to extend the ladder each year.
I found out about Allen Roth on the Bogleheads forum. His book “How a Second Grader Beats Wall Street” is great. I align with his investing philosophies and regularly read his blog.
I have a similar allocation. Only thing I do differently is not having an international allocation. I have 40% in US total markek index. The rest in fixed income and cash. The international allocation is debated frequently on the forums but that’s what I’m comfortable with.
Welcome back!
I have a minimum allocated in international because of the ever so strong US dollar mostly negates the gains made abroad. The reason I have some is because I didn’t know better and can’t wait to get out of them. Also, tracking their fiscal, monetary, and economies is not easy, let alone individual stocks. In short, no better place to invest than the US inspite of periodic deep ups and downs.
International has trailed over the last decade because of the high-flying U.S. tech stocks. Since I am always the contrarian, I hedge my bets by including an international allocation.
As I mentioned the debate whether to add International to a portfolio is highly contentious.
Myself, I do not think there is a right or wrong answer. Each of us has to decide what you feel comfortable with.
Indeed!!
Agree. I don’t use bond funds or bond ETF’s. I like having control over expenses and to control the cost basis, duration, etc. There are far too many lemmings moving in and out of these funds at the wrong times for my comfort level.
This approach is not for everyone. It is most suitable for larger portfolios, inside traditional retirement accounts; primary for treasuries, TIPS, etc. and finally most important that you enjoy managing your assets on line with low cost firms like Schwab, Fidelity, etc. For more smaller float issues like municipal bonds and most corporates, much harder to get good diversification- so the fund pros rule here.
For my treasuries and TIPS, I build my own ladder. Some at auction, some on secondary market. With individual treasuries I don’t normally have problems executing. Sometimes for TIPS, the depth of book is just not there and you may have to wait a few days. And, obviously, use your Traditional IRA for your ladder to minimize the IRS headaches.
My traditional IRA has a heavy allocation in individual TIPS, laddered out to 2043. But I still have a 20% allocation in Vanguard Total Bond and 20% in Vanguard Wellington. I can use those to pay future RMDs and for qualified charitable distributions.
I agree with you. My challenge is to get where you’re in managing my income producing part of the portfolio. After my wife also retired in November, I on it now…thanks for sharing your experiences.
Excellent, welcome back. Much appreciate your sharing on how you do rebalancing. As always, I learnt a lot. So far, I have not done rebalancing at all and have, over the years, tried to maintain a bar bell approach across my entire portfolio, stocks at one and and mostly cash equivalents, such as US Treasuries, CDs, TIPS, I Bonds, at the other end, to balance out risk. Also, enough in cash equivalents to live off them for a couple decades. Yes, keeping them tax efficient is also an important factor. I have never calculated percentage splits between stocks and bonds, instead I go with needs and feels driven by “sleep well at night metric”. This was all good until my wife also decided to retire in November. A lot has changed now and requires far more active management of our portfolio. Again, your post gives a whole bunch of excellent ideas that I plan to follow, thank you!!
I have one question for all. I am convinced that buying bond ETFs or bond mutual funds are not good investments, especially from total returns point of view. Sure, they’re a little better in a tax deferred account but all the volatility caused by people getting in and out of these funds doesn’t help. There is so so much money into such funds, what am I missing. Please let me know, thanks.
Reading about this topic of bond ladder vs bond fund on the Bogleheads forum, I came away with “There are some cases where one might prefer individual bonds, and some cases where one might prefer a bond fund.” https://www.bogleheads.org/forum/viewtopic.php?t=375052
Thanks….I will look into it.
Bonds funds are ok in a falling rate but in a rising rates, you give up the safeguard of maturity at par.
Karlos, Allan Roth wrote about this ladder vs bond fund issue recently: https://www.etf.com/sections/features/allan-roth-are-bonds-or-bond-etfs-best-you … In the article, he singles out TIPS as one bond he’d prefer to own in a ladder instead of a fund.
The more cash you have to meet your future expenses the less need there is to risk it in investments. Oprah keeps all of her personal investments in cash. We aren’t CFOs. We don’t have a fiduciary duty to try to maximize returns.
Oprahs cash could support all of us in retirement.