It’s natural for your portfolio’s weights to drift away from their targets due to differences in returns. Over time, the portfolio will tend to drift towards higher return (but also higher risk) assets, making it riskier than intended. Rebalancing helps keep your portfolio at the right level of risk for you.
Every day, we monitor the holdings in your portfolio to check how much they’ve drifted from their target allocations. When there are big differences, we’ll attempt to rebalance your portfolio. Because we rebalance based on drift and not on a set time-frequency, we can’t predict when we’re likely to rebalance. While we think that checking the portfolio frequently and using a drift-based rebalancing approach makes the most sense, research by experts such as Vanguard has shown that the specifics of the rebalancing process don’t matter too much - what’s most important is that you are rebalancing at all, and not letting the portfolio stray too far from its targets.
And in case you’re interested:
We do two types of rebalancing to help bring your portfolio’s weights closer to its targets.
- Buying assets whose current weights are below their targets using cash in the account, which can come from dividends or deposits. Dividends are commonly paid on a quarterly or monthly basis.
- Selling assets that are above their targets and using the proceeds to buy assets that are below their targets. The size of the deviation we allow for a particular asset depends on the target weight for that asset - we allow more leeway for assets with larger target weights.
Before you even ask it — Yes, selling assets that are above their targets usually involves realizing gains and incurring taxes — which we know, so we don’t just sell every overweight asset to get your portfolio back to its targets. When we rebalance your portfolio, we evaluate the tradeoffs and will only realize gains when the benefit of moving your portfolio towards your target allocation outweighs the expected tax cost. Keep in mind that our Tax-Loss Harvesting service is continuously looking to harvest losses that can be used to offset capital gains, including ones created during rebalancing.
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