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Here's Why Review & Rebalancing is Important for Portfolio Management
Jul 22, 2021

The Indian economy is currently recovering from the impact of COVID-19 pandemic after being derailed by the second wave. In an effort to boost economic activity, the government has introduced incentives. Besides this, the RBI announced measures to reduce economic stress.

However, COVID-19 experts warn of a possibility of the third wave, which is likely to affect India's economic resurgence in the near future. It is essential that investors review their portfolio management strategy and rebalance their investment portfolios to weather the storm.

Despite uncertainties looming, the Indian equity markets have remained resilient. The markets are moving closely in line with global peers, surging in recent months, with the key indices S&P BSE Sensex and NSE Nifty both scaling new highs.

Consequently, these benchmark indices have maintained momentum in the markets and have been registering healthy weekly gains, even when the economic activities are not at par. As on July 19, 2021, the S&P BSE Sensex closed at 52,553.40 and NSE Nifty closed at 15,752.40. With markets posting healthy numbers, optimism about the vaccination programme, and expectations of swift economic recovery, investors' sentiments seem positive.

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This is a crucial time for your portfolio management, to review the strategy before making new investments. You can rebalance the allocation of your investments and/or asset classes in your portfolio if you find that these may have underperformed owing to changes in the market. Many investors make the mistake of evaluating their investment portfolios to improve its performance only during market lows.

When you invest in different asset classes over a period of time according to your risk profile, investment horizon and financial goals, it is essential to review and rebalance your investment portfolio at regular intervals. Timely review of your investment portfolio is the key to stable returns and working towards your envisioned financial goals during various market phases. When the market is at an all-time high and you see rewarding gains in your portfolio, it is easy to overlook the idea of reviewing your portfolio.

However, if you avoid reviewing your portfolio on time, it could lead to continuous underperformance of asset class or schemes. This can significantly affect your risk profile and make your investment portfolio more vulnerable during a market downturn. Thus, based on your current risk tolerance, investment horizon, and financial goals, review and rebalance your investment portfolio right away.

Notably, there is a difference between rebalancing your portfolio and simply reallocating your assets. Reallocation indicates allocating your investment amount from one asset class to another, such that you increase your exposure to equity by moving funds from debt or vice versa. On the other hand, rebalancing involves selling off assets that have performed well and buying assets that are undervalued in order to benefit from value investing opportunity when the market recovers.

In order to reduce the losses and manage risk-adjusted returns, investors must review and rebalance their investment portfolios on a periodic basis in line with market movements.

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Here are the steps you can take for good portfolio management:

1. Identify changes and redefine financial goals

When creating an investment portfolio, you must have set certain S.M.A.R.T financial goals as per your initial requirements. But as unexpected events are part of life, such circumstances can make certain goals redundant and encourage you to create new ones.

For instance, the COVID-19 pandemic has taught us the importance of having an emergency fund, which is a goal many investors need to achieve now. Moreover, due to pandemic uncertainties, you might have put some of your short-term goals on hold such as buying an expensive car or that vacation abroad.

Similarly, you might encounter many such situations that could lead to a change in financial circumstances as well as goals. To ensure that your financial goals remain in accordance with your investment portfolio , the primary step is to start reviewing them. You may need to redefine your financial objective, devise a smarter portfolio strategy, and draw up new financial goals.

2. Review your portfolio performance

If the benchmark indices are performing well or are at all-time highs, it does not ensure that your investment portfolio is also generating high returns. Your portfolio's performance depends on your investments and the performance of those particular asset class or schemes. Here you need to identify the underperforming holdings that are exposing your portfolio to undue risk.

If your portfolio is underperforming even when the markets are at high, you must analyse the various quantitative and qualitative parameters of your holdings to uncover any consistent underperformers. However, if your portfolio is performing well in line with the upward market movement, it will still be essential to review it to identify any underperformers. This step will assist you in making informed investment decisions in the future.

3. Review your current asset allocation

The asset allocation of your investment portfolio may be based on your earlier risk appetite, investment objective, financial goals, and time horizon to achieve them. However, the current market conditions may not be suitable for this asset allocation strategy and could pull the performance of your portfolio down.

You may need to reallocate and diversify your investments over different asset classes depending on your current risk profile, investment horizon, and your new set financial goals. Many investors have become risk-averse post the COVID-19 pandemic. Such investors should consider a conservative asset allocation strategy with less exposure to equity.

The ideal asset allocation for investors is a combination of equity, debt, and other asset classes. As no two-asset classes perform in same direction. Diversification is the key to holding a robust portfolio that can thrive in various market cycles. If the set asset allocation is not up to the mark, reallocate your investments into the desired asset classes to establish a better risk reward ratio.

Constructing an 'All-weather' portfolio will ensure that your portfolio is well diversified to survive the tides of market volatility.

4. Check the risk and return

One more factor that may indicate your need to rebalance your portfolio is the risk-return ratio. When you carefully examine your portfolio's performance, you may identify that the risk exposure of your investments and the returns they offer point towards the need to rebalance the portfolio.

Your investment portfolio may have a standard allocation of 60% in equity, 30% in debt and 10% in gold; this may diversify the risk in your portfolio. But, owing to the changes in the market environment considering the recent rally in equities, the allocation of your investments may have changed significantly.

For example, you may have a higher exposure in equity at 80% while the other asset classes' debt and gold are at 15% and 5%, respectively. This indicates your portfolio has high exposure to equities, which are high-risk propositions. Hence, if your risk tolerance is low or conservative, you will need to rebalance your portfolio to avoid attracting undue risk.

5. Rebalance your portfolio

As mentioned earlier, you may rebalance your investment portfolio to establish better risk control and ensure that your portfolio does not hold any underperforming assets. While reallocation helps you diversify and switch allocation between asset classes, rebalancing offers investors an opportunity for value investing by purchasing undervalued assets.

Rebalancing your investment portfolio is nothing but changing the deviations of the existing asset allocation and forming a desired asset allocation to align it with your current financial goals as per as the changing market conditions. This rebalancing exercise will also enhance your portfolio performance.

It is essential to rebalance your investment portfolio based on your investment objectives and not only when the market is at lows or your portfolio is underperforming even at market highs. Periodic review of your investment portfolio will give you an appropriate idea of rebalancing the existing asset allocation.

Though the possibility of uncertainties and changes in economic activities amidst the existing pandemic situation looms, the Indian financial markets are expected to remain volatile in the near term. Therefore, the prudent way forward is to have a robust portfolio strategy in place reconstructed after reviewing your portfolio. Even at market highs, your portfolio may require a review and rebalancing to enhance its performance and generate optimal returns.

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If you wish to review your investment portfolio to identify if it requires reallocation or rebalancing, enrol for PersonalFN's Mutual Fund Portfolio Review Service today!

Frequently Asked Questions (FAQ)

  • Why is it important to review my portfolio periodically?

    You must review your investment portfolio periodically to identify if any market changes have led to an immersion or rise in the value of your assets, thereby making your portfolio too risky or non-progressive. Portfolio reviews assist you ensure your investments do not drift away from your set financial goals.

  • What is asset allocation strategy?

    Asset allocation involves diversifying an investment portfolio among various asset classes such as, equity, debt, gold and cash. An investor must set up a strategic asset allocation for their portfolio based on their risk tolerance, time horizon, and investment objectives.

  • What is rebalancing of a portfolio?

    Rebalancing is a process of portfolio management by which investors restore their portfolio to the target asset allocation set initially. Rebalancing is done by investing in assets that have growth potential and divesting the underperforming assets attracting undue risk to the portfolio.

  • Why rebalancing a portfolio is important?

    According to the changing market conditions, the value of your investment changes and rebalancing works as a risk minimising strategy for investors. It ensures that your portfolio offers better risk-adjusted returns and is not solely dependent on performance of a particular asset class or scheme.

  • How can I construct a strong investment portfolio?

    You may consider several combinations of asset allocations across various funds and asset classes and construct an 'All-weather' portfolio that ensures the investments in your portfolio survive through the tides of different market cycles.

Author: Mitali Dhoke

This article first appeared on PersonalFN here.

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PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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