It may be easy to think that a long-term investment into a portfolio of assets is a one time ‘do and forget’ activity that doesn’t require additional efforts of monitoring or re-evaluating. Leaving your investments unattended however is a very dangerous approach that might lead to exposing yourself to too much risk and not achieving the desired performance results. This could be helped by a simple portfolio management technique of re-balancing, with a periodic re-consideration of your portfolio, balancing out of assets and risks in the desired proportion. You can find a quick guide on portfolio re-balancing on eToro below.
(NOTE: Before we continue, we have to give a disclaimer that the trading products offered by the companies listed on this website carry a high level of risk and can result in the loss of all your funds. CFDs are complicated instruments that are never guaranteed to provide you supplemental earnings. In fact, Around 68% of all retail investors experienced a loss while trading CFDs. Make sure to keep this in mind before attempting to use the eToro platform yourself. All the information found on this website is not official trading advice and all practices shown are referenced for the use of the Demo account only.)
What is portfolio re-balancing?
In practical terms, re-balancing involves selling and purchasing assets within your eToro portfolio to ensure asset allocation delivers the target levels of risk and return; it is one of the most basic aspects of portfolio and risk management that aims to maintain the desired asset allocation. Asset allocation refers to the proportion of your total portfolio invested into different asset classes to match your desired risk levels. eToro provides a convenient overview of your portfolio in a pie-chart in terms of allocation, risk and exposure under the ‘Portfolio’ section, where you can see what percentage of your total holdings you have invested into each asset type (for example, ETFs, commodities, stocks etc), into each particular asset or each investment market available on eToro.
Allocation pie-chart overview refers to the relative amounts invested in various trading markets (like equity, commodities, indices), people (from the ‘Copy People’ option) and what is left available on your balance. In case you are only invested into one asset class, you can always switch onto by-asset portfolio overview, with a percentage of total holdings invested into each of the assets shown clearly in a column. For example, if you only invested in stocks, you will be able to see how much you invested into each one of them (on the image below). Risk portfolio allocation overview provides this information in a convenient form of a pie-chart. These overviews could assist you in your process of portfolio re-balancing.
There are many different ways of re-balancing a portfolio and like many other aspects of investing, depend on investor’s personal strategy and goals. Here are some of the general approaches one might consider.
Re-balancing at specific times
This is perhaps the most simple approach, also referred to as calendar re-balancing, and involves reconsidering your investments at specific time intervals to achieve the target asset allocation. For example, you may choose to check on your holdings every month or every quarter to buy or sell several assets. Beware however, that frequent adjustments (like every week) of your holdings may become costly due to transactions costs. The amount of transaction expenses depends on the type of assets, for example investing or opening long positions in stocks (equity) do not involve a charge, however spreads may be charged on other assets like cryptocoins, CFD contracts and so on. It is probably a good idea to consider a balance between the benefits of re-balancing and these transaction costs as well as time constraints. The significant advantage of calendar re-balancing is its simplicity, however it does not provide any technical guidelines on how to actually re-allocate your assets.
This is another simple type of a relatively simple re-balancing strategy that focuses on keeping a constant original allocation of assets you invested into that aims at managing risk levels. The deviation from original proportion may come from some assets appreciating more than the others and consequently representing a larger portion of the entire holdings. For example, if you have a 60/40 ratio of risky stocks or cryptoassets to indices in a portfolio and the riskier part keeps raising in value over time, it is going to represent a larger portion of your total holdings and lead to a more aggressive and risky allocation.
eToro allows you also to see the percentage of your holdings each asset class represents under the ‘Portfolio’ exposure overview, like shown on the image below.
Some investors may decide on a certain range the original allocation may deviate to, for example +/- 3%, after which the portfolio is re-balanced, with some assets sold and additional purchased. The range may depend on the type of asset in question, for example a more volatile asset is likely to require a narrow range spread to ensure they do not represent too much or too little of the total portfolio. The allocation does not necessarily have to be expressed in terms of asset type but also geographical origin of the market (e.g. 30% emerging market, 30% developed economies and 30% domestic assets). It is likewise relatively simple yet this simplicity may also turn out to be a short-coming and make you miss out on potential profit opportunities; this approach is also not indicative of the frequency of re-balancing.
Both the calendar and percentage-of-portfolio rebalancing techniques focus on a constant proportion of assets within a portfolio because its constituent assets’ weights do not change.
Constant-Proportion Portfolio Insurance (CCPI)
CCPI is based on the assumption that investor’s risk tolerance increases alongside their wealth; if an investor only has $100 of savings they are less willing to risk that $100 in very volatile and risky assets than someone who has $10, 000 in savings and would be more comfortable with risking that $100 out of them. This is often due to the fact that investors want to maintain a certain ‘safety’ savings amount for unexpected expenses or other purposes, for example 20% of their holdings, that depends on their risk tolerance. When the value of your portfolio increases, an investor might consider investing more of it into riskier assets (such as volatile equity) while if its total value depreciates, less of it is risked. In this way CCPI relies heavily on the concept of a safety reserve an investor should maintain.
CCPI alone does not consider the re-balancing of the actual assets in your portfolio and may therefore be used in combination with other management techniques; it also doesn’t provide an indication of time frames for re-balancing and that should, once more, consider your objective as well as portfolio turnover costs.
Despite some general guidelines some investors use in their portfolio management, the process of re-balancing might be quite complex and time-consuming. eToro provides the option of investing into other traders on the platform or into CopyPortfolios, which are managed and regularly re-balanced by a management team. There are a variety of portfolios with different investment styles, Market Portfolios and Top Traders portfolios combining various stocks inside. Remember that any investing involves capital loss risk and past performance does not guarantee future results.
Please bear in mind that the above strategies are not an investment advice but only potential considerations of management techniques you might wish to learn about. It might be a good idea to derive a re-balancing strategy that best suits your strategy and goals as well as consider costs associated with buying and selling assets on eToro. Remember that investing involves capital loss risks and enjoy eToro platform. Best of luck!
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