Market Timing & Rebalancing Are Not The Same Thng

Market Timing & Rebalancing Are Not The Same Thing

                                                      by: Brendan Magee

No doubt investing can be a very confusing topic. The lines between prudent strategies and imprudent strategies are not black and white. They are murky at best. Case in point, marekt timing as opposed to rebalancing which is a fancy way of saying buy low/sell high.

Earlier in the week I had a client who had attended a movie event tell me that he believed rebalancing and market timing are the same thing. As he said it, my inner burglar alarm system went off and I couldn't help but tell him that under no circumstances are they the same activity. Since I believe that my client is not the only one with this misperception and it's vitally important for an invetor's success to have a clear distinction between the two, I thought I'd try to explain the difference between the two. 

Let's start with market timing. This is what has proven to be among the most damaging strategies an investor can engage in and it is perhaps the most difficult to avoid. Why is it so difficult to avoid? Look around at all the advertisements and opinions on what to do with your investments. "It's time to buy gold! It's time to get out of the stock market. It's time to get back in the market!" All of these messages are predictions and forecasts about the world's markets, and they all come with tons of statistics to validate the wisdom of the advice.

As enticing as the suggestions may be, we know in life nobody can consistently reliably predict the future. The gutters are filled with the victims of brokerage houses suggestions proving to be not worth the paper they were printed on. Just ask John Corzine. Market timing is bad for your portfiolio and your financial secuirty.

Rebalancing on the other hand is fundamental to successful investing (buy low/sell high). Rebalancing is a by product of asset allocation. Asset allocation is where an investor decides of their total investable dollars what percetage will go to which particular investment categories. For example, you might decide to commit 10% to U.S. Large Company Stocks and the remainder of your portfolio to go to other investment categories in certain percentages. 

Rebalancing means that at a given period of time you come back and look at your portfolio and see how the various parts of your portfolio have performed in relationship to one another. In our example let's U.S. Large Company stocks had a very profitable return. Let's say it's up by 25%, while the other parts of your portfolio may have gone down a little or not as much as your U.S. Large Company Stocks. Rebalancing means you are going to always work towards keeping your portfolio in its original percantages.

So anything above 10% in U.S. Large Comapny Stocks gets sold off and that 15% profit gets distributed among the investments that have gone down or haven't gone up as much as your U.S. Large Company Stocks. Systmatically, your portfolio sold what was high and bought what was low. 

The difference between this and market timing is that this transaction was not based upon a prediction about the future. It was based on keeping the portfolio in its original percentages. The reason this is so important is that over 90% of a portfolio's performance is derived from its assel allocation policy. 

When investors apply discipline to their asset allocation policy they have a much easier time following the golden rules of investing, buy low/sell high, and history has shown they are ultimately more successful than investors who fall victim to market timing strategies. 

Brendan Magee is the founder and president of Inevitable Wealth Coaching. Call 610-446-4322 or e-mail brendan@coachgee.com with questions, comments or suggestions.