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Taking stock

Taking stock

With the global financial crisis, now might be a good time to take another look at your investment portfolio to get the most from your money


By Trevor Keidan

Make sure you "keep your balance" when it comes to financial planning - especially in times of crisis.

Rebalancing is an essential process that is designed to decrease risk and earn you money. It is a useful technique that should be practised by all on a regular basis - with or without a global financial crisis.
Simply put, rebalancing is the technique of changing your asset allocation to suit your financial objectives, your age and your attitude to risk. It can also be applied when circumstances change, as is the case with the increased volatility brought on by the global financial crisis.

Most people rebalance their portfolios as they age. It stands to reason that a young person will have an investment portfolio that takes on more risk than that of an older person. After all, if the younger person's portfolio loses money, he or she has more time to recoup the money lost.

However, when a person nears retirement - or is even in retirement - the portfolio normally becomes more cautious. After all, there is little chance to make any losses back.

As a case study, let's take a typical portfolio of a person in his or her mid-20s. He (or she) is gainfully employed and has a fast, aggressive lifestyle. The 20-something's capacity for financial risk is fairly high - and so is his or her tolerance to risk.

Investors should be

prepared to rebalance their portfolios when

circumstances change.

The portfolio of a 20-something investor might look something like this: Five percent cash such as a money market fund; 20 percent bonds; 65 percent stocks (perhaps two-thirds from the United States stock market and the remainder in international or emerging markets); and 10 percent in property such as real estate trusts. Such a portfolio would be considered fairly aggressive. However, the 20-something has plenty of time to ride out the peaks and troughs in the market. He or she also has five percent set aside in cash in case of an emergency so that the amount invested in the portfolio can remain untouched.
However, even if the amount in the portfolio does remain untouched, as it grows, there may well be a need to rebalance.

Let's say the 20-something now turns 30. His or her lifestyle is now more cautious. There are kids and college tuition to think of.

Maturing portfolio

The portfolio of the 30-something investor might look something like this: Five percent cash; 25 percent bonds; 60 percent stocks including two-thirds US stocks and one-third international stocks; and ten percent in property including real estate investment trusts.

Such a portfolio is slightly less aggressive than that of the 20-something but still has a certain level of risk - as exemplified by the investment in stocks. There is an increase in the amount invested in bonds and a reduction in the holding in stocks. Bonds are considered safer than stocks.

People in their mid-50s might reduce their investment in stocks to 50 percent while increasing their investment in bonds to 35 percent. And someone in their late-60s - having taken retirement - might hold just 35 percent in stocks and 40 percent in bonds.

And while age is an obvious incentive for rebalancing a portfolio, there are others such as discipline, planning and risk tolerance.

In setting out a portfolio, an investor might want to only ever hold 60 percent of his or her investment in stocks and 40 percent in bonds. However, over the course of a year, the stocks have done well and the holding in the portfolio has increased to 80 percent compared with just 20 percent in bonds.

Such a change goes against the investment practice of the individual and makes for a riskier portfolio. In order to get back on track, the investor might choose to sell off the stocks and buy bonds to bring the portfolio back in line. Similarly, investors should be prepared to rebalance their portfolios when circumstances change. And in today's market, where volatility is the name of the game, investors should keep a careful eye on their portfolios. It might be that it's time to rebalance.

Trevor Keidan is managing director of Infinity Financial Solutions. Contact him at [email protected].