If buying low and selling high is the secret to investing success should you buy every time the market drops significantly? Jason Zweig argues convincingly in a Wall Street Journal article that investing during the market’s equivalent of retails’ Black Friday is not a simple path to increased returns. Sure buying low helps but how low does the market have to go before you buy? Also you have to correctly identify how high is high enough to sell.
Zweig correctly identifies rebalancing—selling one asset that has gone up in price to buy another that has gone down—as the key to improving returns over time. Rebalancing works as your portfolio’s GPS. That is you set your course with your initial asset allocation but when you encounter roadblocks or the unexpected along your route the GPS re-calculates your driving directions or rebalances to keep you on course to reach your destination.
Zweig quotes research from Francis Kinniry Jr. an investment-strategy analyst at Vanguard Group that found that over the past decade regular rebalancing between stocks and bonds would have added about 0.3 percent in average annual return to a strategy of buying on dips of 2 percent or more. Further he shares the finding that an investor with 40 percent in U.S. stocks 20 percent in international stocks and 40 percent in U.S. bonds who rebalanced at year end over the last decade would have earned 5.6 percent annually —versus 4.9 percent for someone who merely bought and held.
Here’s another analogy to underscore the value of rebalancing. It feels great to buy a new car far below the sticker price but you need to regularly maintain your vehicle for it to serve you well over the long-term. Rebalancing is required maintenance for your portfolio. As I look back on the technology bubble that burst 9/11 and the financial crisis/Great Recession our disciplined rebalancing is one of the major reasons our clients have had a better investment experience.