If you hold more than one fund, you will eventually need to rebalance your portfolio. Over time, the assets that grow fastest take up a bigger share, and your portfolio drifts away from the mix you chose. Rebalancing brings it back. Done simply, it takes a few minutes a year.
In short
- Rebalancing restores your target mix, for example 80% shares and 20% bonds.
- The easiest method is to direct new contributions to whatever is underweight.
- Check once a year, or when an asset moves more than 5 percentage points from target.
- Selling to rebalance can trigger tax, so sell only when new money is not enough.
Why portfolios drift
Imagine you start with €8,000 in a world equity ETF and €2,000 in a bond ETF: an 80/20 split. After a strong year, shares rise 25% and bonds rise 2%. You now hold €10,000 in shares and €2,040 in bonds, which is 83% shares.
That may not sound like much, but after several good years in a row you could be at 90% shares without having decided to take more risk. Then, when markets fall, the loss is bigger than you planned for. Rebalancing is not about increasing returns. It is about keeping the risk you actually chose.
If you hold a single all-world ETF, you never need to rebalance between regions, because the fund does it for you. See the one-fund portfolio for why that simplicity helps.
Three ways to rebalance your portfolio
1. Rebalance with new money
This is the best method for anyone still saving. Each month, put your contribution into whichever fund is below its target. If shares are overweight, buy only bonds for a while. You never sell anything, so there are no sales costs and no tax.
With monthly ETF savings plans, you can simply change the amounts of each plan until the weights are back in line.
2. Calendar rebalancing
Pick one date a year, for example your birthday or the first week of January. On that day, check your weights and correct them. Once a year is enough for most investors. Rebalancing every month adds work and costs without a clear benefit.
3. Threshold rebalancing
Only act when an asset drifts more than a set amount from its target, for example 5 percentage points. With an 80/20 portfolio, you would rebalance when shares reach 85% or fall to 75%. This avoids pointless trades in quiet years and reacts when markets move a lot.
Many investors combine the last two: they check once a year and only act if the drift is larger than 5 points.
How to rebalance your portfolio step by step
- Write down your target, for example 80% shares and 20% bonds.
- Add up the current value of each fund and calculate its weight.
- Work out the gap: target value minus current value.
- Cover the gap with new contributions first.
- Only if that is not enough, sell part of the overweight fund and buy the underweight one.
Example
Your portfolio is worth €12,040: €10,000 in shares and €2,040 in bonds. The target for bonds is 20%, or €2,408. You need €368 more in bonds. If you invest €400 a month, you could simply put the next month’s full contribution into the bond fund.
Tax and costs
In most European countries, selling a fund at a gain is a taxable event, so rebalancing by selling can cost you money. A few points help:
- Use new money first. It costs nothing.
- Rebalance inside tax-free accounts where you can, such as a UK Stocks and Shares ISA or a French PEA.
- In Spain, index funds can be switched with a tax-free traspaso, which makes rebalancing between funds much cheaper. See investing in Spain.
- Watch trading fees. A few low-cost trades a year are fine; dozens are not.
Do not rebalance into a panic
The hardest moment to rebalance is after a crash, because it means buying the asset that just fell. That is exactly when it helps most. A written rule, such as “check every January and act if drift exceeds 5 points”, makes it easier to follow through when your instincts tell you to wait.
For how to choose the target in the first place, read our guide to asset allocation.
Sources
This article is for educational purposes only and is not financial or tax advice. Rules and prices change; check official sources or a qualified adviser before making decisions.