During rebalancing, the weighting of the portfolio is restored through targeted measures. One of them is cash flow rebalancing. That’s what lies behind it.
• Fluctuations on stock markets make rebalancing necessary
• Cash flow rebalancing involves investing new capital
• ETFSavings plans here with various advantages
It is completely normal for stock market fluctuations to affect the various positions in a portfolio. Even if many ETF investors pursue a buy-and-hold strategy, they should still be aware that such fluctuations can also lead to a shift in the weighting in the portfolio.
Restore balance with rebalancing
This is where rebalancing becomes important, i.e. bringing balance back into the portfolio. If the portfolio is never adjusted, the desired risk could increase unintentionally or, on the other hand, the target return could not be achieved.
In terms of ETFs, this could mean, for example, that 70 percent of the portfolio is invested in the broad MSCI World index and 30 percent in a narrower and slightly more risky MSCI Emerging Markets ETF. If the emerging markets ETF were to perform significantly better than the MSCI World index, this would unintentionally lead to a higher weighting of the emerging markets ETF, for example towards 65 to 35 percent or even 60 to 40 percent.
For this reason, investors should keep an eye on the development and weighting of the portfolio in the wake of fluctuations on the stock market and intervene if necessary. In general, it is recommended to perform such a rebalancing once a year, or when the weighting deviates more than five percent from the original target.
Cash flow rebalancing
There are different options for how exactly the weighting can be restored according to your own wishes. One of them is the so-called cash flow rebalancing. Here, “new money”, for example savings or Christmas bonuses, is invested in the asset class that performed less well in the period under consideration and thus lost weight.
Especially with ETF savings plans, this measure offers the advantage that they can be easily adjusted, which does not result in any fees, as would be the case if you had to sell or buy new assets.
To take up the example above: If you have an ETF savings plan for the MSCI World and another for a better-performing emerging markets ETF, the savings rates for the latter could be suspended until the weighting corresponds to the announced allocation again. Of course, the savings rates can also be flexibly adjusted.
Cash flow rebalancing also offers tax advantages, as no capital gains are realized and therefore no capital gains tax is incurred. However, it is up to you whether you want to invest fresh money in ETFs that are not performing as well or use other rebalancing measures.
Martina Köhler, editorial team at finanzen.net
