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Rebalancing a portfolio can offer calm amidst a storm Thumbnail

Rebalancing a portfolio can offer calm amidst a storm

As the world grapples with projections of what it will take for the economy to recover from COVID-19 and the stunning collapse of global oil prices, there’s still the matter of risk that the next headline-driven sell-off could push markets even lower than levels seen thus far. So, what can investors do to shield against further volatility but not lose sight of an eventual market rebound?

Rebalance and repeat

Consider that a diversified stock-bond portfolio comprised of 60 per cent equities and 40 per cent fixed income has shown to perform slightly better in market sell-offs. While the standard 60/40 mix may have some difficulty keeping pace when markets pick up steam, a fixed-income allocation can help. As markets depreciate or undergo a correction, a balanced portfolio will inherently become overweight in fixed income, and by selling some of those fixed-income assets and buying depressed equity to rebalance, the portfolio will take advantage of those opportunities.

“The data we’ve collected over the past four decades illustrates that rebalancing your portfolio as often as quarterly or at the very least, annually, is a solid strategy to cushion the impact of volatile economic conditions,” says Philip Petursson, Chief Investment Strategist, Manulife Investment Management. “This way, investors can reduce their equity risk, add some protection against the downside, and at the same time, take advantage of lower equity costs that are well-positioned for growth. When you compare a balanced portfolio to one that consists of 100 per cent equity, you see less downside risk, but also see similar upside performance over extended periods of time.”

Investment growth of $10,000 — equity portfolio vs. balanced portfolio (since 1976)

Here’s a chart that compares the performance of a 100% equity portfolio to a balanced portfolio (60% equities, 40% fixed income), with an initial investment of $10,000, from 1976 to the present. The chart shows the balanced portfolio gained over $23,000 more than the equity portfolio.

Adaptation is key

Clearly, emotions can run high during a severe crisis or event and can influence the way we would normally react. With highly charged emotions during a sudden market sell-off, some investors feel compelled to sell their assets and flee the markets altogether, and therefore, will stand to gain nothing. Others may decide to play it safe, transfer everything to cash, and wait on the sidelines for the economy to fully recover. With this approach, investors may simply be exchanging the anxiety of being in the markets with the anxiety of being out of the markets and may miss the initial recovery while they wait for added confirmation. See the graph below to understand how this affects a portfolio over the long term.

A willingness to adapt to changing market conditions is key to helping investors offset any tendency to think of themselves as victims during unpredictable times. Manulife Investment Management’s portfolio managers recommend investors seek the expertise of their advisor to learn about the benefits of rebalancing their portfolio, as well as the advantages of asset allocation and dollar-cost averaging that can help them withstand the effects of an economic storm.

Portfolio comparison (since 2007)

As seen here, a balanced portfolio offers better protection during a down market, wherein the quarterly rebalance allows for the purchase of equities at a discounted rate.

This chart compares the performance of four investment strategies since the last bear market, from September 2007 to March 2020. The chart shows a balanced portfolio, rebalanced each quarter, gives three benefits: good returns, better protection when markets turn down, and the ability to buy equities at a discount over the investment period.

“Statistics show that investors can seize the advantages of a downward market sell-off by shifting their asset allocation to the lower-valued asset class, which, in effect, is dollar-cost averaging without having to commit new capital,” adds Petursson. “If you stick with the fundamentals and set your portfolio back to its intended target weights, it will reap the benefit of underpriced equity when markets begin to rebound.”

The events of recent weeks have upheld the fact that no one can readily predict the time when markets will crater and eventually hit bottom, or even where that bottom might be. But when markets do begin to tumble, staying invested and rebalancing quarterly will far outweigh the benefits of jumping ship.

Support materials on market volatility, the value of advice, and the importance of staying invested can be found in Viewpoints

Important disclosure

A rise in interest rates typically causes bond prices to fall. The longer the average maturity of the bonds held by a fund, the more sensitive a fund is likely to be to interest-rate changes. The yield earned by a fund will vary with changes in interest rates.

Currency risk is the risk that fluctuations in exchange rates may adversely affect the value of a fund’s investments. This commentary reflects the views of the sub-advisor of Manulife Investment Management. These views are subject to change as market and other conditions warrant. 

The opinions expressed are those of Manulife Investment Management as of the date of this publication, and are subject to change based on market and other conditions. The information and/or analysis contained in this material have been compiled or arrived at from sources believed to be reliable but Manulife Investment Management does not make any representation as to their accuracy, correctness, usefulness or completeness and does not accept liability for any loss arising from the use hereof or the information and/or analysis contained herein. Manulife Investment Management disclaims any responsibility to update such information. Neither Manulife Investment Management or its affiliates, nor any of their directors, officers or employees shall assume any liability or responsibility for any direct or indirect loss or damage or any other consequence of any person acting or not acting in reliance on the information contained herein.

All overviews and commentary are intended to be general in nature and for current interest. While helpful, these overviews are no substitute for professional tax, investment or legal advice. Clients should seek professional advice for their particular situation. Neither Manulife, Manulife Investment Management Limited, Manulife Investment Management, nor any of their affiliates or representatives is providing tax, investment or legal advice. Past performance does not guarantee future results. This material was prepared solely for informational purposes, does not constitute an offer or an invitation by or on behalf of Manulife Investment Management to any person to buy or sell any security and is no indication of trading intent in any fund or account managed by Manulife Investment Management. No investment strategy or risk management technique can guarantee returns or eliminate risk in any market environment. Unless otherwise specified, all data is sourced from Manulife Investment Management.

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