Invest Well. Live Well: It’s about balance

Much of life is about balance. Too strict of a diet tends to lead to its failure. Too much indulging in one area can lead to complications in another. As my wife Amanda puts it, she works out to stay healthy — and to say yes to dessert.

Everything in moderation. 

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Investing also needs balance. Eric and I have created our own Investment Philosophy and 10 Core Beliefs we use to manage money. We believe these are 10 evidence-based strategies that can help reduce risk and enhance returns. 

One of our core beliefs is to rebalance portfolios on a regular basis.

Asset allocation is the proportion of investments traditionally invested across cash, bonds and stocks. It is seen as the cornerstone to investing (also a core belief we can discuss in greater detail another time). For us, investors should align their portfolio and asset allocation to their personal investment objectives, risk tolerance and time horizon. Extensive research has shown that asset allocation accounts for roughly 90% of a portfolio's return. Over time, investment returns for stocks, bonds and cash will vary and can skew one's portfolio, highlighting the need to rebalance.

Let's assume Jane has a $500,000 portfolio invested in 60 per cent equities (stocks) and 40 per cent income (bonds). According to TD Economics, the estimated return for stocks is seven per cent and for bonds is three per cent. Without factoring fees, taxes etc., Jane would have a projected return of 5.4 per cent per year. After five years, her portfolio would grow to $652,620. Because of the stronger performance in equities, it is nearly 65 per cent of Jane's investments. Positive performance is a good thing, but if left unchecked, it can unintentionally push Jane outside her desired objectives and risk tolerance. 

The solution is to rebalance a portfolio back to its original asset allocation target. That means trimming five per cent off equities and adding five per cent to bonds, thereby returning Jane's portfolio back to original 60/40 objective.  

A few benefits to rebalancing:

1. Outperforms buy and hold: According to research by Craig Israelsen, PhD, an annually rebalanced portfolio outperforms a buy and hold portfolio 78 per cent of the time over rolling 20-year periods. 

2. Lowers risk: BNY Melon did analysis from 1979 to 2017 and found that systematic rebalancing lowered the risk, or standard deviation, by seven per cent. It also increased a portfolio's value by a modest 0.2 per cent per year.

3. Forces discipline: Investing is an emotional process and we can be reluctant to trim our winners. Systematic rebalancing removes emotion and keeps a methodical process to managing one's portfolio. Emotions often are the biggest downfall to an investor's success. 

4. Takes advantage of market volatility: Rebalancing can potentially enhance returns during market volatility. During a correction, this would mean buying more assets that have fallen in value and selling those that have held up well. Or put in other words, one would increase potential to buy low and sell high.

The past few months have been a rollercoaster ride for investors. As market volatility increases, so does the possibility of one's portfolio potentially straying from their objectives. It may be time to review your portfolio and see if any adjustments are needed. As always, we encourage consulting with an investment professional. 

Until next time, invest Well. Live Well.

This document was prepared by Eric Davis, vice-president, portfolio manager and investment advisor, and Keith Davis, investment advisor, for informational purposes only and is subject to change. The contents of this document are not endorsed by TD Wealth Private Investment Advice, a division of TD Waterhouse Canada Inc.-Member of the Canadian Investor Protection Fund. All insurance products and services are offered by life licensed advisors of TD Waterhouse Insurance Services Inc., a member of TD Bank Group. For more information, call 250-314-5124 or email Keith.davis@td.com.

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