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Diversification and Rebalancing: A Retirement Saver’s Best Friend (2019)

Diversification and Rebalancing A Retirement Saver’s Best Friend (06/2016)

Soon many investors will be getting their mid-year 401(k), 403(b), or IRA performance reports. As markets are wont to do, last year’s poor performers—gold, high-yield bonds, global bonds—reversed course and are this year’s winners, reaffirming that the one free lunch available to investors is diversification.

Diversification is the proverbial don’t put all your eggs in one basket. So within an asset class such as bonds, an investors who is diversified owns treasury bonds, corporate bonds, high-yield bonds, and international bonds. Benefiting from the fluctuations in returns from year to year.

Bonds Bounce Back in 2016

Benefiting from a reversal in the strength of the U.S. dollar, the Barclays Global Aggregate Bond Index—which consists of currencies and bonds from all over the world—is up 8%, as the conventional wisdom that rising interest rates in the U.S. would push the dollar higher has yet to materialize.

U.S. bonds have also done well this year. The Barclays Aggregate Bond Index, which consists of treasuries, government-related bonds, and corporate bonds, is already up 4%. High-yield bonds (riskier corporate bonds) had it tough last year—but the Standard & Poor High Yield Corporate Index reversed course, and is up 9% this year.

Strangely enough, Treasury Inflation-Protected Securities (TIPS), also a type of bond, are up. The Barclays Capital U.S. Treasury Inflation-Protected Securities Index is up 4%, though what it is designed to protect against inflation remains tame.

Stocks and Gold

Stocks have been up and down. After a rocky start to the year, the S&P 500 is almost 5%. However, the MSCI Index, which represents large and mid-cap stocks across 21 developed countries excluding the US and Canada, is down 1%.

The MSCI Emerging Market Index is down 3%. Its performance has been hurt by the sluggish Chinese stock market, which is down 17%. Many worry that a debt bubble may be bursting in China.

Gold had fallen from $1,800 an ounce down to $1,104, but it has rallied to $1,215. It would need to go up another 48% to get back to its 2011 high. Time will tell whether this year’s rally is the start of a new bull market or a bear-market bounce.

Rebalancing Your Portfolio

Because the stock market is significantly overvalued at this time, now is a good time to consider rebalancing your portfolio. By rebalancing instead of selling what has gone down or buying what has gone up, investors remain diversified but go back to their original allocation.

So while diversification is about the eggs, asset allocation is about the basket. What percentage of your basket is going to be in stocks and bonds?

For example, if six years ago you were comfortable with an asset allocation of 60% in stocks and 40% bonds, now, after the doubling of the stock market, that portfolio might be 75% stocks and 25% bonds. Rebalancing simply puts your asset allocation and its risk level back to the original 60/40.

Retirement accounts are ideal for re-balancing, because they enable you to buy and sell within the account with no tax consequence, and usually no fee or commission.

Investors approaching retirement who fail to rebalance might unwittingly end up closer to retirement with a riskier portfolio. That is why, when such investors rebalance, they might want to update their targeted allocations. For example, an investor with a portfolio that was 60/40 five years ago and now 75/25 could rebalance to 35% stocks and 65% bonds.

We will have to wait and see what the rest of the year brings. As the adage goes, past performance is not indicative of future results. However, with a presidential election like none we have had before, combined with a Federal Reserve bent on raising the Fed Funds Rate, things should get interesting.

Read More: Diversification and Rebalancing A Retirement Saver’s Best Friend (6/2019)

Results as of 06-09-2016

Comparison of Returns of Different Asset Classes (Investors cannot directly invest in an index)
Asset ClassReturn as of 06-09-20162015 Return
Barclays Global Aggregate Bond Index8.12%-3.50%
S&P High Yield Corporate Index9.27%-2.52%
The Barclays Capital U.S. Treasury Inflation Protected Securities (TIPS)4.46%-1.44%
Barclays Aggregate Bond Index4.18%0.55%
The MSCI Emerging Market Index-2.97%-3.78%
MSCI EAFE Index-1.12%0.39%
S&P 500 Index6%1.20%
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