A Simple Calculation to Rebalance Your Portfolio?

For many people they pay a financial advisor to assist them with rebalancing their portfolio and for some rebalancing a portfolio may sound like a complex number of calculations. However I am here to show you a simple calculation that I use when rebalancing my portfolio every year.

If you don’t know what rebalancing a portfolio is, its the simple process of calculating what your existing portfolio assets are in a percentage of the total portfolio. Then seeing if your current portfolio aligns to the objectives you have made for your portfolio strategy.

For myself it was easier to understand this concept after completing a few rebalances of my Canadian Registered Retirement Savings Plan (RRSP).

Let’s use this example of a portfolio of Mutual Funds.

  • Canadian Bond Index
  • Canadian Equity Index
  • US Equity Index
  • US Dividend Growth
  • International Equity Index

For every portfolio you should have already created an asset allocation for the portfolio. This could be an 80/20, or 70/30, or 60/40, or 50/50, or I think you get the point. The split is determined by the type of assets that you are purchasing; Stocks, Bonds, ETFs. And what those specific allocations will be? 10%, 20%, 40%, etc.

Now you take your portfolio and assign it an asset allocation percentage;

  • Portfolio Asset
    • Canadian Bond Index
    • Canadian Equity Index
    • US Equity Index
    • US Dividend Growth
    • International Equity Index
  • Asset allocation %
    • Bonds 40%
    • Equity 1: 10%
    • Equity 2: 10%
    • Dividend 1: 30%
    • Equity 3: 10%

Initially you have to decide on what the combination of your portfolio will be? Stocks, ETF’s Bonds. Then you have to decide on what your Asset Allocation % will be? After that it’s time to begin purchasing units of each Stock, ETF or Bond. Or if you do not want total control over your assets, you could always go with a Robo-Advisor portfolio.

What’s a Robo-Advisor portfolio? This is a portfolio already pre-determined by a firm and they simply align your investing style to one of their portfolios. What’s beneficial is that the firm you choose to work with, will complete the rebalancing of your portfolio, they will work for you and for a small fee or percentage. Using a Robo-Advisor has its advantages for new investors, and people who are interested in investing but do not have the time or desire to self-manage.

Now that we’ve covered Robo-Advisors, lets get back into what occurs in the initial 12-months of the portfolio.

However if you are a person who wants control over the assets and wants to rebalance on their own then you need to learn how-to accomplish this task. The financial advisors I spoke with said it is best to review your portfolio after 6-months to see how your allocations are being adjusted through the purchase of units and to complete an actual rebalance every 12-months.

You will begin purchasing units of each asset (Stock, ETF, Bond) within your portfolio. Each purchase will increase the total number of units or shares within the portfolio. Because each unit costs different amounts of money as you are purchasing them throughout the year, it is nearly impossible to calculate the exact number of units you would have to purchase to keep your Asset Allocation Percentage the same throughout the year.

In the example below, we are showing the total number of assets purchased over a 12-month period. At the end of this 12-month period it is time to rebalance.

  • Portfolio Asset
    • Canadian Bonds
    • Canadian Equity
    • US Index
    • US Dividend
    • International Equity
  • Asset Allocation %
    • Bonds 40%
    • Equity 1: 10%
    • Index 1: 10%
    • Dividend 1: 30%
    • Equity 2: 10%
  • Units Purchased
    • 100
    • 50
    • 50
    • 300
    • 50

What is rebalancing? As mentioned above, its realigning your portfolio assets to as close to the preferred asset allocation percentage you originally intended for your entire portfolio.

For the above, example Canadian Bond Index (CBI), we determined we initially determined to have a 40% allocation. With 550 total units purchased for the portfolio in the past 12-months we calculate what the current Asset Allocation Percent is for this asset.

To complete the calculation you divide the 100 CBI units purchased by the total number of units bought within the year 550 and multiple it by 100 to learn the percentage.

100/500 x 100 = 18%

We then calculate the new Asset Allocation % for each of the Portfolio Assets to understand what our current portfolio looks like and learn which assets must be rebalanced.

As you can see in the third column we are under on Bonds and way over on US Dividend. The other 3-portfolio assets are very close to the original percentage. We learn our portfolio is at 99% assets. This usually means the final 1% is listed as cash inside your account.

  • Portfolio Asset
    • Canadian Bonds
    • Canadian Equity
    • US Index
    • US Dividend
    • International Equity
  • Asset Allocation %
    • Bonds 40%
    • Equity 1: 10%
    • Index 1: 10%
    • Dividend 1: 30%
    • Equity 2: 10%
  • Asset Allocation New %
    • 18%
    • 9%
    • 9%
    • 54%
    • 9%

We can see now our Bonds are 22% less than our intended asset allocation percentage. This could have occurred because of bond prices rising or falling throughout the year. Thus if bonds started out being $20 per unit and by end of the year were $80 per unit, then it would cost 4-times per unit and thus a decrease would have occurred in total units. Same goes for if US Dividend were $100 per unit when we started buying and over the 12-month period the price came down to $25 per unit. Thus we were able to purchase more units of this asset and it increased the total units purchased and made our allocation rise by 24%.

There are several ways to complete a rebalancing of your portfolio.

We are going to demonstrate a very simple calculation which you can follow.

In the above example, the simplest way to rebalance the portfolio would be to concentrate on the 2-assets which are over and under.

  • US Dividend,
    • Sell 24% (132 units) of the existing assets to bring it down to the 30% allocation
  • Canadian Bonds,
    • Purchase 22% (121 units) of new assets to bring the total units up to the 40% allocation

Remember it is best to keep an eye on your assets as you continue to grow your portfolio through purchasing and selling during the year. It is also best practice to rebalance your assets in any 12-month period to ensure your portfolio is making the most out of your intended expectations.

Disclaimer: The advice in this post is of the opinion of this writer and is not being provided by professional financial advisor. This is general advise which can be found on the internet through any basic search about rebalancing a portfolio.

~ Aaron JacksonCrabb