Portfolio Rebalancing Strategy

Apart from asset allocation decision, financial experts around the world are advocating periodic portfolio rebalancing to bring your investments portfolio that has deviated from the target asset allocation back in line. In short, portfolio rebalancing is the action of selling of high performing investments to buy lower performing investments, with the condition that the fundamentals of lower performing investments are still intact. While this logic deviates from normal human psycology, what portfolio rebalancing is doing is basically to sell high and buy low. With periodic portfolio adjustments, we can take advantage of the system to take profit devoid of our emotions in making investment decisions.

There are many strategies to do portfolio rebalancing that are employed by many experts. What I'm focusing in this article is on rebalancing of unit trust investments portfolio, i.e. cash, bond fund(s) and equity funds. Some of the portfolio rebalancing strategies recommended by the financial experts are as below:

1. Rebalancing by time frame: Most of the financial expert recommend that investors rebalance their investments portfolio at least once or twice a year. Investors can either rebalance in a fixed time frame, i.e. every June and December of the year; or rebalance according to market conditions. The latter strategy takes advantage of market volatility to sell high and buy low, i.e. selling off high performing investments when stock market is riding high and keep the proceeds in cash fund; and then use the cash fund to buy lower performing investments when the stock market is in the doldrum. This will only work if the investors are really experienced with market timing. Even then, there's no guarantee that the investors will get to sell off at the absolute high or buy at absolute low. Here's a web article which explains pretty well on rebalancing frequency.
2. Rebalance when asset allocation is diverted by certain percentage: Some other financial experts recommend that investors should rebalance their investments when their portfolio asset allocation is skewed by 5% or 10%. In short, this strategy involves the selling off of equity fund that has grown more than 5 - 10% than the target asset allocation, and use the proceeds to buy under performing other equity/bond/cash funds, and vice versa. The idea is to bring the asset allocation back to the initial target asset allocation.
3. Rebalance when certain funds achieve desired returns: Some investors take profit of their investments when predefined returns from the investments have been achieved. For example, if i have an equity fund with initial investment of RM 1000 and set the desired returns from this fund is 15%, then if the fund is performing exceptionally well over 15%, then i will take profit for this fund by selling off the profit portion, i.e. selling off RM 150 worth of unit trust while keeping the initial cost of investment in tact.
4. Combination of strategy 1 & 2: The remaining investors might rebalance using the combination of first and second strategy, i.e. by sellings of high performing investments and buy into under performing investments once or twice a year.

So, there you go with some of the rebalancing strategies that I've read/though about. Personally, I'm employing the third strategy for my personal investments. While this third strategy works by taking profit of high performing investments, but i realize that this strategy might not be optimal for maintaining/optimizing asset allocation.

Different portfolio rebalancing strategies works for other investors in different ways. I'm still trying out which other strategy that might work better for my personal investments. So, which portfolio rebalancing strategies that work for you? Care to share the strategy that works miracle for you with all of us?