How good is your financial standing? Here are 4 points to note about your investment portfolio

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Updated: December 23, 2016 7:15:03 AM

The end of the year is a good time to review your financial standing, goals, and implications of major economic events

Even though you are a buy-and-hold investor, you still need to do some maintenance on a periodic basis and the year end is the right time for it. (Reuters)Even though you are a buy-and-hold investor, you still need to do some maintenance on a periodic basis and the year end is the right time for it. (Reuters)

As the year 2016 comes to an end, it presents an opportunity to close the chapter on one period of life and start anew. The same thing applies to your investment portfolio.

Rebalance your portfolio

Even though you are a buy-and-hold investor, you still need to do some maintenance on a periodic basis and the year end is the right time for it. You need to review your current financial standing, goals, and the implications of economic changes and factor in important events that took place over the course of the year, including marriage, birth of a child, starting a business, taking a new job, buying or selling property, etc.

Why you should rebalance?

It is important for investors to understand why they should rebalance portfolios. Often, certain asset classes will do better than others over a given period of time. For instance, over the course of the last one year, your equities could have done extremely well whereas your investment bonds could have performed poorly. Let us assume that your original asset allocation was 80% in equity and 20% in bonds, your end-of-year allocation may be 90% stocks and 10% bonds. This may expose you to unwarranted risk. Again, if equity stocks performed poorly and bonds did well, next year you may be taking lower risks and miss out on gains in the stock market.

Assess impact of new policies

You need to ensure that your portfolio is delivering towards your financial goals, including existing and new risks. Seek the views of experts on the impact of economic conditions in the coming year. For example, potential interest rate decrease, government’s plan to reduce current account deficit and its potential to impact various several asset classes, including fixed deposits, government bonds, corporate bonds, equity market, commodities and real estate.

Best time to rebalance

It is rare that huge swings in financial markets will cause dramatic changes in your original allocation percentages. If you allocate 20% to one particular asset class it is not often it will swing more than 20-30 percentage points beyond that allocation. Also, there can be trading costs associated with buying and selling of asset classes. So, rebalancing too often can diminish the potential positive effects of doing it. Once per year is a sufficient frequency for rebalancing your portfolio. Many people do it at the end of the year when it is wise to consider other year-end strategies such as tax loss harvesting and tax planning for next financial year. Also, before you rebalance, make sure your investment objectives have not changed in such a way that you need to change your asset allocation.

To conclude, through rebalancing you make appropriate trades so that you return to your targeted asset allocations.

The writer is associate professor of finance & accounting, IIM Shillong

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