Rebalancing Urgency and Precision Overstated; Focus on Goals

Key Quotes

"Rebalancing is the process of adjusting your portfolio back to your original target allocation, whatever that target allocation may be. Let's say you decided years ago that you wanted 80% stocks and 20% bonds because that's what some advisor told you to want. Over time, stocks do well, because they usually do, and now your portfolio is 90% stocks and 10% bonds. This is a very common problem for many of us. Rebalancing simply means selling some of those stocks and buying more bonds to get back to 80/20."

Tyler Gardner explains that rebalancing is the act of returning a portfolio to its predetermined stock and bond percentages. He uses the example of an 80/20 split that drifts to 90/10 due to stock market growth. Gardner clarifies that rebalancing involves selling the overperforming asset (stocks) and buying the underperforming asset (bonds) to restore the original allocation.

"But here's something that very few financial advisors will say, and I'm not quite sure why they won't acknowledge this: rebalancing is not nearly as crucial as the financial industry makes it out to be. The difference between an 80/20 and a 90/10 portfolio over time is just about zero. Let me be clear, I'm not saying don't rebalance. I'm saying it's not some sacred ritual you need to perform every quarter or you'll lose everything."

Gardner asserts that the urgency surrounding rebalancing is often overstated by the financial industry. He states that the long-term difference in outcomes between slightly different allocations, like 80/20 and 90/10, is minimal. Gardner emphasizes that rebalancing is a tool, not a critical, non-negotiable requirement that will lead to total loss if not performed precisely.

"Because here's the thing the rest of the financial world gets 100% wrong, and I feel like I'm on crazy pills every time I see this type of commandment recast in another type of stone for the next generation of investors: just because you're getting older doesn't automatically mean you need to shift or should shift into more bonds and conservative investments."

Tyler Gardner challenges the conventional financial advice that links age directly to the need for more conservative investments like bonds. He expresses frustration that this age-based formula is perpetuated, arguing that it fails to account for individual circumstances. Gardner believes this approach is fundamentally flawed and does not reflect the diverse financial realities of individuals.

"If your allocation is way too risky or way too conservative for your long-term goals, yes, rebalance. If you're supposed to be 70% stocks but you're sitting at 95% because of a decade-long bull market and you're five years from retirement, yeah, you should rebalance, even if it means paying some capital gains taxes. Why? Because the risk of being overexposed to stocks right before you need the money is way higher than the cost of paying 15% or 20% in long-term capital gains taxes."

Gardner provides a key guideline for rebalancing in taxable accounts: prioritize alignment with long-term goals over tax avoidance. He argues that if an allocation significantly deviates from the intended risk level, especially close to a major financial event like retirement, rebalancing is necessary. Gardner frames paying capital gains taxes as a worthwhile cost to mitigate the greater risk of substantial portfolio loss.

"Use new contributions to rebalance instead of selling and avoid the taxes altogether. Here's the sneaky move that lets you rebalance without triggering any taxes, even in a taxable account. Instead of selling your overweighted assets, you just stop buying them. Let's say you're at 95% stocks and 5% bonds, but you want to be at 80/20. Instead of selling stocks, you just direct all of your new contributions (monthly, quarterly, whatever) into bonds."

Tyler Gardner introduces a tax-efficient strategy for rebalancing in taxable accounts: rebalancing through contributions. He explains that instead of selling existing assets, investors can direct all new money into the underweighted asset class. Gardner notes that while this method is slower, it effectively realigns the portfolio without incurring immediate tax liabilities.