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Managing Risk in Your Investment Portfolio

Managing Risk in Your Investment Portfolio

| March 21, 2019
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I like to win. I test myself in races that require lots of preparation, daily practice, and physical exertion. My fellow competitors share that sense of accomplishment when the win is for the team or for an individual. My successes confirm my strategy, and I will continue to use it until it no longer works for me. That's also true in finance. If an investment is successful, most people naturally want to stick with it. But is that the best approach?

Here is an article from my online library that speaks to this issue:

Rebalancing Your Portfolio

It may sound counter-intuitive, but it may be possible to have too much of a good thing. Over time, the performance of different investments can shift a portfolio's intent — and its risk profile. It's a phenomenon sometimes referred to as "risk creep," and it happens when a portfolio has its risk profile shift over time. When deciding how to allocate investments, many start by taking into account their time horizon, risk tolerance, and specific goals. Next, individual investments are selected that pursue the overall objective. If all the investments selected had the same return, that balance — that allocation — would remain steady for a period of time. But if the investments have varying returns, over time, the portfolio may bear little resemblance to its original allocation.

How Rebalancing Works

Rebalancing is the process of restoring a portfolio to its original risk profile. There are two ways to rebalance a portfolio.

  • The first is to use new money. When adding money to a portfolio, allocate these new funds to those assets or asset classes that have fallen. For example, if bonds have fallen from 40% of a portfolio to 30%, consider purchasing enough bonds to return them to their original 40% allocation. Diversification is an investment principle designed to manage risk. However, diversification does not guarantee against a loss.
  • The second way of rebalancing is to sell enough of the “winners” to buy more underperforming assets. Ironically, this type of rebalancing actually forces you to buy low and sell high. Periodically rebalancing your portfolio to match your desired risk tolerance is a sound practice regardless of the market conditions. One approach is to set a specific time each year to schedule an appointment to review your portfolio and determine if adjustments are appropriate. 

Phillips Financial Strategies on Capitol Hill is based on the principle that education and understanding of your current financial situation are critical if you are going to make wise and informed decisions concerning your future financial condition. If you have any questions or concerns about your current financial situation or wish to schedule an appointment, please contact us. 

Material discussed is meant for general illustration and/or informational purposes only, and it is not to be construed as investment, tax, or legal advice. Although the information has been gathered from sources believed to be reliable, please note that individual situations can vary. Therefore, the information should be relied upon when coordinated with individual professional advice.

Source: Balancing Your Portfolio  

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