Rebalancing
Left alone, a portfolio drifts toward whatever has performed best. Rebalancing restores the intended weights, which means selling what has risen.
MadStockAlerts Research · Updated August 29, 2026
What to take away
- Drift is automatic; the allocation changes without any decision.
- Rebalancing is primarily risk control rather than a return enhancement.
- Calendar and threshold approaches are the two conventional triggers.
- It has costs: transactions, spreads and, in a taxable account, realised gains.
- It is psychologically difficult by construction, since it sells what is working.
MAD Academy Training Video · 0:46
Selling What Worked, On Purpose
Without rebalancing a portfolio drifts into whatever has risen most, which is the opposite of what the original plan intended.
This lesson is part of a Stock Alerts + Tools plan.
What drift does
A portfolio set at sixty percent equities and forty percent bonds does not stay there. If equities double while bonds are flat, the weights become seventy-five and twenty-five, and the portfolio now carries substantially more equity risk than was chosen.
| Start | After equities double | |
|---|---|---|
| Equities | $60,000 (60%) | $120,000 (75%) |
| Bonds | $40,000 (40%) | $40,000 (25%) |
| Risk carried | As chosen | Materially higher, with no decision taken |
The drift is always toward whatever has performed best, which means the risk rises after a period of good returns and falls after a bad one. Left unattended, a portfolio is most aggressive at the point where it has already risen most.
Scroll the chart sideways to see all of it.
- Left alone
- Rebalanced annually
The two triggers
| Calendar | Threshold | |
|---|---|---|
| Trigger | A fixed date: annually, quarterly | A drift band, such as 5 percentage points |
| Frequency | Fixed regardless of markets | Varies; more often in volatile periods |
| Monitoring | None between dates | Continuous, or at least periodic |
| Typical outcome | Fewer transactions, larger drift between them | Tighter control, more transactions |
Studies comparing them generally find modest differences in outcome and larger differences in transaction count, which points to the conclusion that having a rule matters considerably more than which rule it is.
What it does and does not do
Rebalancing is often described as producing a bonus by systematically selling high and buying low. That effect exists in some conditions and it is not the main reason the practice exists.
- Its primary function is keeping risk at the chosen level, which is a control rather than a return.
- The rebalancing bonus is real where assets are volatile and mean-reverting, and negative where one asset trends persistently.
- In a sustained equity bull market, rebalancing into bonds reduces return. That is the cost of holding the risk level chosen.
- Over long periods the effect on return is small and the effect on risk is not.
The third item is worth stating plainly, because it is the situation in which the discipline is most often abandoned. Rebalancing reduces return during a strong run in one asset, by construction, and that is the outcome the risk control produces.
The costs
- Transaction costs and spreads on both sides of every adjustment.
- Realised gains in a taxable account, which is a genuine cost that a tax-advantaged account does not incur.
- The behavioural cost, since the action always feels wrong at the moment it is required.
Two techniques reduce the first two. Directing new contributions to the underweight asset rebalances without selling anything, and performing the adjustment inside a tax-advantaged account avoids the realised gain entirely where the allocation is spread across account types.
This describes the mechanics rather than what anyone should do, and the tax consequences of any adjustment depend on circumstances only a professional can assess.
Rebalancing bands in practice
A threshold approach needs a band, and the width of the band is the trade-off between control and transaction count.
| Band | Effect |
|---|---|
| Absolute, 5 percentage points | Simple, and it treats a 5 percent holding and a 50 percent one identically |
| Relative, 20 percent of the target | Scales with the position, so a 5 percent target triggers at 4 or 6 |
| Wide bands | Fewer transactions, more drift, lower costs |
| Narrow bands | Tighter control, more transactions, higher costs |
The second row is the more defensible construction for a portfolio with positions of very different sizes, since a five-point drift in a fifty percent holding is a tenth of it and a five-point drift in a five percent holding is a doubling.
Checking on a schedule and acting only when a band is breached combines the two approaches, and it is the arrangement most commonly used in practice because it caps both the monitoring effort and the transaction count.