How To Rebalance a Stock Portfolio

RebalanceRebalancing a portfolio is a very powerful concept. It allows the investor to systemically sell high and buy low. Index investors do that regularly and there are no reasons why a dividend investor cannot do the same and it doesn’t have to cost much in fees either. Make sure you have a good discount broker with low fees such as Questrade.

Related: Discount Broker Overview

Stock Portfolio Rebalancing Process

Step 1 – Setting Sector Targets

To rebalance, you need to start with a set of targets for you dividend income portfolio. Setting sector targets work best. Considering I personally have over 30 stocks, I could not imagine setting a target for each of my stocks. It’s a lot more manageable to set targets by sector since you can group stocks within a sector. You may decide to have only 1 per sector and that works too. Over time, any investor will start diversifying within a sector just to minimize exposure.

Here are my targets for your reference. I have 10 sectors at the moment and it may change over time at which point I would adjust my sector targets. It’s what I am confortable with at the moment. Those targets only represent my dividend portfolio. My defined contribution plan at work is simply indexed – not really any other options.

  • 15% – Financial
  • 15% – Utilities
  • 15% – Telecommunication
  • 10% – Energy
  • 10% – Healthcare
  • 10% – Real Estate
  • 10% – Consumer Goods
  • 5% – Technology
  • 5% – Transportation
  • 5% – Bonds
Now, where do I stand ? The graph below shows my current ratio and my expected target. I am heavy in financials and I have always known it. The reason is that I started building my portfolio with many financials and I only diversified by adding new money as I feel very confident in the Canadian banks.
Portfolio Rebalancing
Based on my desired target, I will be adding to the utility sector in the new year when I add new money and I also expect to add to the bonds sector in the new year. Those will be my priority.

Step 2 – Set Key Rebalancing Trigger

The simplest trigger is once a year. If you are investing in stocks, chances are you look at your portfolio a little more often than once a year and I would recommend to do it at least once per quarter. The fees for selling and buying should not be too costly on your portfolio and 3 months is a decent amount of time for a market to move. If you are going to pick a rebalancing date, I would recommend you pick May or October as they have represented the annual highs and lows as referred to by the expression “Sell in May and Go Away“.

Another trigger is to set a percentage variation for each sector to decide on rebalancing. For example, if your target is 10% for the transportation sector, you could decide to rebalance with a 3% variation up or down. If your sector reaches 13% or 7%, you would look at selling or buying. The challenging part is that it doesn’t mean just one other sector moved. You could have 6 sectors all moving slightly and you don’t want to rebalance them just yet… You would have the option to sell for cash or to inject more cash if you did not have any as part of your allocation.

Step 3 – Decide How To Rebalance

You don’t always have to sell in order to rebalance, sometimes you just have to add some funds. It’s a matter of planning how you want to rebalance. You don’t want to sell 10 stocks worth $100 and pay $10 in commission, it just doesn’t make sense. When it’s time to rebalance, you might not actually be able to do it efficiently and you just need to plan it. My portfolio is above $100K now and most of my investments have $5,000 or so. With a 10% to 20% differential target, I tend to trade $1,000 and it makes the $10 commission represent a small percentage to lock in some profits.

Step 4 – Rebalance Within a Sector

Dividend Snapshot
It’s also important to have a look within a sector to see if anything should be adjusted. For example, you could own the 6 major Canadian banks for your financial sector and depending on when you purchased your stocks, you might want to rebalance between them. If I look at my portfolio, Toronto Dominion (TD) and National Bank (NA) are doing better than the other banks. At some point, I could take a profit and add to another bank. It usually means you invest in a higher yield bank too if one is lagging behind the others.

I don’t tend to do anything until a stock is consistently 20% above my purchase price. At that point, I will evaluate if it’s time to take a profit for the benefit of another investments. I already did that with Crescent Point Energy (CPG) and Liquor Store (LIQ).

Final Thought on Rebalancing a Stock Portfolio

Rebalancing is a powerful concept that take the emotions away from investing and let you reflect on the ups and down of your holdings. I find that investing is very much about the process and your diligence to stick to a plan as opposed to finding the next gold mine.

Readers: Do you rebalance your stock portfolio?

Image: Master isolated images / FreeDigitalPhotos.net

12 Responses to "How To Rebalance a Stock Portfolio"

  1. Great article PIE,

    I like how you show how your portfolio actually stacks up against your targets. Mine looks much the same way – very heavy in financials. I like the Canadian banks too.

    Thanks for the info on the different ways to actually go about rebalancing. I’ll have to put in into practice next May.

    Reply
  2. Besides sectors, is your balancing further based on $ amounts, # of shares or income? I balance my portfolio by striving to equalize my distribution income. This is after having my sectors covered.

    Reply
    1. The Passive Income Earner · Edit

      @Bernie

      My balancing is all about the amount in dollars and based on current market value. I am not currently in a position where I need to balance my monthly income but that’s a nice approach when you near retirement.

      Reply
  3. There are obviously a lot of approaches to this, but bonds don’t belong in a discussion about rebalancing an equity portfolio, as they are a different asset class. Implicit in this point, is that one major decision that needs to be made, based on the investor’s risk appetite and time horizon, is the percentage of assets that should be allocated to equities. Once you have that, you can then decide on allocations of the equity portfolio based on sectors, country, world region, market cap, and value vs. growth.

    I’ll add that bonds are often discussed very generically, but they deserve a much deeper sector-like analysis as well. You have U.S. government bonds (various maturity classes, zero coupon bonds, and TIPS), foreign bonds (emerging and developed markets, denominated in local and U.S. currencies), investment grade and high-yield corporates of all maturity ranges, preferred stocks (which are more like bonds than stock), and bank loan funds. There are lots of options, and they all have different characteristics. In fact, a few people who really knew what they were doing made vastly more money by just playing U.S. Treasury 30-year zero coupon bonds over the past 30 years than could have been made with broad investments in the stock market. Long story short, equities aren’t the only asset class that deserve a detailed level of attention.

    Reply
    1. The Passive Income Earner · Edit

      @Pat

      Thanks for your comment. I agree that any sectors can be reviewed more deeply including bonds. My point was really, like you said, that you must pick a percentage and use that. You can, in fact, have 3 levels of analysis
      – Level 1: Equity / Bonds / Cash ratios
      – Level 2: Deeper analysis by each of the groups above
      – Level 3: In depth look at market cap, cyclical and so forth.

      It can get pretty complicated. In my case, I pretty much only have dividend stocks and I have described the approach I use to rebalance a portfolio holding mostly stocks.

      Cheers,
      The Passive Income Earner

      Reply
  4. Thanks for sharing. My new target is around 10% across all stock sectors.
    Your bond allocation seems a bit small. Is there a particular reason for that?
    Utilities are doing very well right now and I’m afraid they are a bit overpriced. I’m overweight there right now, but will probably transfer to bonds later.

    Reply
    1. The Passive Income Earner · Edit

      @Joe

      Thanks for stopping by. I liked your recent posts on your allocations.

      My bond is small because it’s well covered in my Defined Contribution Plan at the office which is indexed and I am confortable being a little more aggressive in my dividend portfolio.

      Reply
  5. Great thanks to share useful tips for rebalancing a Stock Portfolio. I am basically a forex trader but also invest in stock market as well. At present, I have stocks of 10 companies but face problem to add new stocks and sell previous one. As I am not familiar to rebalance my stock portfolio. I hope, your tips will help me.

    Reply
  6. I used to worry about rebalancing, but I read a statement in the Connolly Report which changed my thinking. “It’s not diversification but concentration in good DG stocks”. Looking back I realize that I’d have been much better just investing in the core 10-15 stocks when they were value priced an not worry about sector allocation or diversification or %.
    In fact I’d gladly have $1mil in just a cdn bank, utility, pipeline or comm, and I wouldn’t be worried or not be able to sleep at night.

    Reply
  7. With interest rates on the rise and lots of negative comments about dividend investing, do you plan on buying growth stocks with little or no dividends?

    Reply
    1. @dave

      I am stick to dividend paying stocks regardless of interest rates or comments. My strategy is dividend growth stocks and it’s not about the dividend yield but about the dividend growth and the long term company viability and economic moat.

      Reply

Post Comment