Portfolio Rebalancing — Selling High and Buying Low by Rule

Rebalancing is the practice of periodically returning a portfolio to its intended mix. A plan of 70 percent stocks and 30 percent bonds does not stay at those weights, because the pieces grow at different rates. After a strong run in stocks the mix might drift to 80/20, quietly carrying more risk than the plan called for. Rebalancing sells the part that grew and buys the part that lagged to restore the target.

Why drift is a problem

The drift is not neutral. A portfolio that has crept from 70 percent stocks to 85 percent is now exposed to a larger loss in a downturn than its owner chose. The target mix encodes a level of risk; letting it drift silently raises that risk without a decision. Rebalancing is how the chosen risk level is enforced over time rather than abandoned to whatever the market did most recently.

Sell high and buy low, by rule

Mechanically, rebalancing sells some of what has risen and buys more of what has fallen, which is the discipline most investors find hardest to do by instinct. It replaces the urge to chase winners with a rule, and the rule runs in the unglamorous direction. It does not promise higher returns — in a long one-directional rally, trimming the winner can lag a hands-off approach — but it is primarily a risk-control tool, not a return-boosting one.

How it is usually done

Two common triggers. Calendar rebalancing checks the mix on a fixed schedule, such as annually. Threshold rebalancing acts only when a holding drifts past a set band, such as five percentage points from target. Inside tax-advantaged accounts the trades create no immediate tax; in a taxable account, selling to rebalance can trigger capital gains, which is a situation-specific detail for a qualified tax professional. The idea of holding distinct functions is covered in the framework reference.

The Obsidian Metrics community works through portfolio structure weekly.

Educational only. Not financial advice. Results not guaranteed. We are not financial advisors.