Goldilocks and Your Retirement

Finding the right balance in managing investments is a challenge for all of us. Neglecting your portfolio can hurt your chances for a prosperous retirement. Sometimes, though, paying too much attention can cause just as much damage.

There are all sorts of routine things you have to do to maintain your portfolio. Checking out the annual and quarterly reports for the companies whose stocks you own is essential to understanding their business prospects and future outlook. Keeping tabs on your net worth lets you gauge your progress toward your financial goals. But it's easy to have too much of a good thing. Watching your stocks rise and fall throughout each day can tempt you into making quick trades that can lead to huge missed opportunities. Reacting to breaking news without fully understanding it can make you sell at exactly the wrong time. Even simple things can hurt your performance if you obsess over them. You've got to figure out how much time and effort is "just right."

 

The value of rebalancing

Take rebalancing your portfolio, for instance. Nearly every financial planner -- myself included -- recommends checking your investments periodically to make sure that changing market values haven't caused your portfolio to become riskier than you initially intended. Often, you'll read advice telling you to rebalance once a year or every six months to keep your asset allocation in line with your targets. If you don't, you could find yourself perilously overweighted in stocks at exactly the time they're most likely to drop in value.

Yet a study in this month's issue of our Rule Your Retirement newsletter -- to be released today at 4 p.m. -- suggests that the conventional wisdom on rebalancing is wrong. Yes, rebalancing once or twice a year does produce better results over the long run than not rebalancing at all. But you can get even better performance by rebalancing your portfolio less frequently. As the study points out, choosing a less-frequent rebalancing schedule can nearly triple the benefit of rebalancing annually.

The meaning behind the math
The reason for this has to do with the way winning stocks and asset classes tend to perform. Markets typically cycle up and down over multiyear periods. For instance, after rising steadily throughout the 1990s, stocks made a particularly strong push upward in 1998 and 1999, only to fall precipitously over the next three years. Then from early 2003 until now, the market has mostly gone straight up.

Since markets tend to move in the same general direction over long periods of time, frequent rebalancing forces you to cut back on some of your winners before they've had a chance to go as far as they can. Taking short-term profits on recent market winners like Freeport-McMoRan (NYSE: FCX), Amazon.com (Nasdaq: AMZN), or Research In Motion (Nasdaq: RIMM) may be tempting, but you can end up sacrificing a lot of future potential.

Yet if you wait too long to rebalance, you risk losing all your gains. Picking the right length of time is a classic struggle between greed and fear.

Learn the basics
Finding the Goldilocks scenario for your rebalancing is just one example of the basic concepts of retirement investing. If you'd like a little help planning for your golden years, I encourage you to try Rule Your Retirement. You can take a free one-month guest pass to check out the newsletter, including today's brand-new August issue, as well as all our back issues, specialized discussion boards, and planning tools that will help you create your own plan for retirement. But don't wait -- your successful retirement may hang in the balance.