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  • Writer's pictureSunil K Pai, CFA

Systematic Rebalancing, Get the Performance Edge

Rebalancing, what is it? Why should you care? One of our inquiring clients asked the question and the folks at Research Affiliates (RA) coincidentally wrote an article on the same topic.

What is rebalancing? Simplistically, buying and selling positions in a portfolio to re-tune the risk balance to meet one's risk tolerance.

Top five reasons for investor's to rebalance:

1) Risk tolerance has changed due to age, behavioral responses (fear vs greed) to risk-taking

2) A life event like birth, death, educating kids, job status change

3) Market events, economy, geopolitical, inflation, interest rates

4) New investment classes or products surface; existing investments die

5) Shifting financial goals related to education, spending, retirement

Per the RA article, being systematic in one's rebalancing can provide a tremendous long term edge. By their research, it can amount to a 13.7% increase in Sharpe ratio (risk adjusted returns) versus simply making no rebalancing decisions. They did not reasonably cover the cost of "bad/wrong" rebalancing decisions but it exists. And, we further define the performance edge with systematic rebalancing on a portfolio of stocks with our ARBi investment products, which are rebalancing risks either daily or monthly based on new information.

It is this combination of systematically driven rebalancing, 1) via fintech toolsets that one should use on a regular basis related to the 5 keys noted above for rebalancing at the portfolio level, and 2) use of investment products specifically geared to rebalancing on a regular basis, which can lead to a significant increase in your realized Sharpe going forward.

So, that's it. You want a performance edge going forward? Seek out systematic rebalancing at your portfolio level and drive it through into the individual investment products that make up that portfolio.

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