What is rebalancing and why is it important?
If you invest in multiple funds, you may find that one fund outperforms another, causing skews in your portfolio. You solve this by rebalancing, which means adjusting the distribution of your investments. For example, if you sell some of your investments in bond funds and purchase investments in stock funds in return, that's called a rebalancing.
Example of rebalancing
Suppose you invest in two funds, with 60% in a stock fund and 40% in a bond fund. The prices of these funds can rise or fall, throwing your distribution out of balance. For example, if the stock fund rises much faster than the bond fund, at some point you may have 70% of your value invested in the stock fund, and only 30% in the bond fund. You are then taking on more risk than you originally wanted.
The importance of rebalancing
By rebalancing your assets, you ensure that you return to investing according to the original distribution. The skewed growth of your investments is straightened out, and after rebalancing, you once again take the risk that suits your objective.
How does rebalancing work?
For example, in the example above, if you decide to rebalance, you sell 10% of your shares in fund 1 and buy bonds in fund 2 for that 10%. After this, the distribution is again 60% to 40% and your fund distribution is as before. The balance of your assets is then restored.
Automatic rebalancing
You can rebalance your assets at any time through your account. You can also choose to have this done automatically every year. If you turn on automatic rebalancing, your assets will be rebalanced every year on the same date as the end date of your account.