Q. How often should I balance my portfolio?
A. We already had a blog post discussing the frequency of rebalancing one's portfolio that depends on one's investment stage.
MarketWatch had an article from an author who did two back date testings comparing the following hypothetical people: Mr. Lazy, who never rebalances, Ms. Birthday, who rebalances once a year, Mr. Quarter, who rebalances every three months, and Miss Monthly, who, as her name suggests, rebalances every month.
Here are the two tests and the end results:
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Test 1.
The first portfolio was spread equally across five asset classes: U.S. stocks, stocks of developed economies overseas such as Europe and Japan, emerging market stocks, inflation-protected U.S. Treasury bonds, and long-term regular U.S. Treasury bonds. Someone holding this portfolio has a balance of 60% stocks and 40% bonds; the stocks are highly diversified across three major global groupings; and the bonds are split between those which are protected against inflation and the long-term bonds which are most valuable in a market panic or sell-off, when they (unlike everything else) tend to go up.
To run the experiment I used the portfolio service offered by Lipper, Inc., a fund-analysis service owned by Thomson Reuters. For the sake of illustration I built the portfolio using five Vanguard funds: Vanguard Total Stock Market Index VTSMX, Vanguard Developed Market Index VDMIX, Vanguard Emerging Market Stock Index VEIEX, Vanguard Inflation-Protected Securities VIPSX and Vanguard Long-Term Treasury VUSTX.
I started the experiment in June 2000, the earliest date from which all five funds were available, and continued to the present.
Bottom line? Mr. Lazy did worst. Mr. Quarter did best. Miss Monthly could have saved herself a lot of bother. Not only did she do worse than Mr. Quarter, but she even did worse than Ms. Birthday.
Test 2.
For a second experiment, I looked at how the same four investors would have fared over a longer period of time. Once again using Lipper, I imagined that each of the four started with $100,000 20 years ago, in 1994. And I imagined that in each case they built a portfolio spread equally between three assets: U.S. stocks, emerging market stocks, and the bond market. (I used the Vanguard Total Stock, Emerging Market Stock, and Bond Market Index funds, three funds which existed throughout that period and for which data are available).
Bottom line? The results were pretty much in line with the first experiment. Mr. Quarter did best. Mr. Lazy did worst, although once again not quite as badly as you might have expected. Miss Monthly could have saved herself her time and energy. She did worse than Ms. Birthday.
Going back over 20 years, we really are delving into ancient history. In 1994, Barings had yet to go bankrupt. The Internet was in its early stages. Google hadn’t even been invented, and Amazon was in its infancy. Your correspondent was considered on the cutting edge because he read news online, on a black screen, using a 14.4k dial up modem. The Asian Tigers were only just getting going on their massive bubble of the mid-1990s.
How did these portfolios fare?
Mr. Lazy saw his $100,000 investment swell to $405,000 — a remarkable sum for no work. Miss Monthly ended up with $441,000. Ms. Birthday ended with $445,000. But Mr. Quarter trumped them all, finishing with $459,000. That’s $54,000 more than his super-lazy counterpart.
Mr. Lazy earned 7.2% a year with no effort at all. Mr. Quarter earned just under 8%.
I should add that the drawdowns—the sharpest falls from peak to trough—were comparable across all four portfolios.
The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little. But they do suggest that a certain amount of activity pays rewards.
=============================
The Bottom Line
If you add transaction costs and short term tax impact, plus considering the emotional pain one suffers when engaged in frequent rebalancing, it's safe to say Mr. Lazy ends up as the biggest winner!
A. We already had a blog post discussing the frequency of rebalancing one's portfolio that depends on one's investment stage.
MarketWatch had an article from an author who did two back date testings comparing the following hypothetical people: Mr. Lazy, who never rebalances, Ms. Birthday, who rebalances once a year, Mr. Quarter, who rebalances every three months, and Miss Monthly, who, as her name suggests, rebalances every month.
Here are the two tests and the end results:
=============
Test 1.
The first portfolio was spread equally across five asset classes: U.S. stocks, stocks of developed economies overseas such as Europe and Japan, emerging market stocks, inflation-protected U.S. Treasury bonds, and long-term regular U.S. Treasury bonds. Someone holding this portfolio has a balance of 60% stocks and 40% bonds; the stocks are highly diversified across three major global groupings; and the bonds are split between those which are protected against inflation and the long-term bonds which are most valuable in a market panic or sell-off, when they (unlike everything else) tend to go up.
To run the experiment I used the portfolio service offered by Lipper, Inc., a fund-analysis service owned by Thomson Reuters. For the sake of illustration I built the portfolio using five Vanguard funds: Vanguard Total Stock Market Index VTSMX, Vanguard Developed Market Index VDMIX, Vanguard Emerging Market Stock Index VEIEX, Vanguard Inflation-Protected Securities VIPSX and Vanguard Long-Term Treasury VUSTX.
I started the experiment in June 2000, the earliest date from which all five funds were available, and continued to the present.
Bottom line? Mr. Lazy did worst. Mr. Quarter did best. Miss Monthly could have saved herself a lot of bother. Not only did she do worse than Mr. Quarter, but she even did worse than Ms. Birthday.
Test 2.
For a second experiment, I looked at how the same four investors would have fared over a longer period of time. Once again using Lipper, I imagined that each of the four started with $100,000 20 years ago, in 1994. And I imagined that in each case they built a portfolio spread equally between three assets: U.S. stocks, emerging market stocks, and the bond market. (I used the Vanguard Total Stock, Emerging Market Stock, and Bond Market Index funds, three funds which existed throughout that period and for which data are available).
Bottom line? The results were pretty much in line with the first experiment. Mr. Quarter did best. Mr. Lazy did worst, although once again not quite as badly as you might have expected. Miss Monthly could have saved herself her time and energy. She did worse than Ms. Birthday.
Going back over 20 years, we really are delving into ancient history. In 1994, Barings had yet to go bankrupt. The Internet was in its early stages. Google hadn’t even been invented, and Amazon was in its infancy. Your correspondent was considered on the cutting edge because he read news online, on a black screen, using a 14.4k dial up modem. The Asian Tigers were only just getting going on their massive bubble of the mid-1990s.
How did these portfolios fare?
Mr. Lazy saw his $100,000 investment swell to $405,000 — a remarkable sum for no work. Miss Monthly ended up with $441,000. Ms. Birthday ended with $445,000. But Mr. Quarter trumped them all, finishing with $459,000. That’s $54,000 more than his super-lazy counterpart.
Mr. Lazy earned 7.2% a year with no effort at all. Mr. Quarter earned just under 8%.
I should add that the drawdowns—the sharpest falls from peak to trough—were comparable across all four portfolios.
The results are reasonably intuitive. They support the suspicion that paying too much attention to the market, by rebalancing every month, is almost as bad as paying too little. But they do suggest that a certain amount of activity pays rewards.
=============================
The Bottom Line
If you add transaction costs and short term tax impact, plus considering the emotional pain one suffers when engaged in frequent rebalancing, it's safe to say Mr. Lazy ends up as the biggest winner!
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