Don’t look back!
You’re doing it! You’re doing it! You’re riding a bike.
Look LaTisha! You’re riding a bike!
I still remember the first time my dad let go and allowed me to ride a bike all by myself for the first time. I had been riding with training wheels and so ready to have them taken off. I was so confident that I could do it!
I begged my mom. I talked to my dad. Eventually they agreed and I had a chance to practice riding a bike without my training wheels.
As I got on I remember how difficult it was to stay upright. I leaned to the left a bit, and then leaned to the right a bit. If I leaned too much I found myself falling.
Eventually I learned to make the tiniest shifts left and right to stay balanced.
And as I rebalanced a bit here, a bit there, my dad saw that I had the hang of it and let go.
Riding a Bike for the First Time and Investing Smartly
What the heck does this have to do with investing? You might be asking that very same question.
When you first invest as a college student or if you are investing for the first time as a young adult, you might be unsure how to start investing or even where to put your money. The number one question that I get is ‘where do I start?’
I always recommend starting with what you know and understand. If you are a baseball fan then you are going to understand stats. Each stock has its own set of stats. Learn the important ones and let that be the way you invest.
If you are more of a qualitative investor and you prefer to follow the story of a company then scour the news, investor update calls, and commentary of companies that you already know and love.
Maybe you think that choosing and purchasing individual stocks is a waste of time and you would rather invest alongside the index.
Not sure what type of investor you are? Take this quiz to determine your investing style.
If you decide to take a balanced approach like I did in the investing throwdown, then you will likely need to rebalance your portfolio to make sure it does not swing one or the other too much. For example, I invested 60% passively and 40% actively. If the index does really well, then my portfolio could end up being 65% passive and 35% active. This could throw off my entire plan and I might very well fall off my ‘bike’.
In order to keep my allocation and portfolio optimized I will need to invest smartly and do a bit of rebalancing.
How and Why Rebalancing Works
When you rebalance a portfolio you consistently sell what’s working and buy more of what is not working. Essentially, you are taking your emotions out of the equation; buying low and selling high.
As someone who has lost money in the markets because of emotions, I understand the effects of emotional investing.
Rebalancing your portfolio helps to keep your pre-determined allocation in place. If you decide that you want 50% of your portfolio allocated to stocks and 50% to bonds, then an annual or cash flow based rebalanced will help keep that allocation in check.
Rebalancing often could eat into your returns if your account is subject to high fees. However, if you rebalance each time you add cash to your account then you can avoid unnecessary fees.
How to Rebalance an Active Portfolio
Rebalancing an active portfolio is pretty simple. You would sell from the winners and put those gains towards the losers. Deciding when to rebalance will be your biggest decision. Do you give your winners time to run? And why would you buy more of the losers?
Welcome to active investing.
Those decisions are difficult to make but as an active investor, that is what you have chosen to do.
On average, financial planners suggest that you rebalance about once a year.
How to Rebalance a Passive Portfolio
Rebalancing a passive portfolio is much easier. If you have chosen a low cost broker/dealer for your account, it is likely that they are handling the rebalancing for you behind the scenes.
For example, with my managed ETF account (like this one from our partners at Ally Invest), each time I am paid dividends or when I deposit cash, they are automatically rebalancing my account. They use the cash flow to rebalance my portfolio in a tax-efficient manner. Which minimizes taxes, and keeps me happy.
And with an evenly balanced portfolio I can ride without the training wheels.
Do you rebalance your portfolio? When did you first learn how to ride a bike? All investing related and childhood stories welcomed!
Originally posted 2014-03-19 11:51:42.