I Rebalanced for the First Time Since 2021
For the first time in over four years, I rebalanced my 403(b) retirement account. My allocation to the Vanguard 500 Index Admiral fund (VFIAX) surpassed the upper limit of 25% that I had set for its portfolio weight.
Often, when a periodic rebalancing alert is triggered, something beyond just momentum in the financial markets has occurred to cause an asset class to exceed its allocation boundaries. That is the case now.
The S&P 500 index has been enjoying a good run since the 2022 bear market. The large-cap index has realized a cumulative 84.6% return over the past three years (through the end of October), according to S&P Dow Jones Indices.
Driving the S&P 500’s returns are its largest constituents. Nvidia Corp. (NVDA) alone is responsible for 19.8% of the S&P 500’s year-to-date returns through October 31, according to S&P Dow Jones Indices. Microsoft Corp. (MSFT) is in second place, accounting for 10.1% of the index’s returns. We can credit excitement over artificial intelligence (AI) for these two companies accounting for 30% of the S&P 500’s returns this year.
Could the S&P 500 rally further? The six-month period of November through April has historically been very favorable for stocks. Corporate earnings are growing. The Federal Reserve remains in an accommodative stance, even if we don’t know whether interest rates will be cut in December. On the other hand, the S&P 500 is trading at a high valuation. OpenAI (ChatGPT), Anthropic (Claude) and other AI providers are a long way from being profitable. Plus, the second year of a U.S. president’s term has often been tough for stocks.
Rather than trying to guess where the market will go, it’s better to focus on maintaining your desired allocation. Rebalancing does this. It brings allocations that are too far off target back to their target range. Rebalancing can be applied to any allocation covering two or more assets.
The target allocation for my 403(b) account is 20% in each of the following mutual funds:
Vanguard 500 Index Admiral
Vanguard Small-Cap Value Index Admiral fund (VSIAX)
Vanguard FTSE All-World ex-US Small-Cap Index Admiral fund (VFSAX)
Vanguard Real Estate Index Admiral fund (VGSLX)
Vanguard Intermediate-Term Investment-Grade Admiral fund (VFIDX)
I based this allocation on the long-term returns for the various assets, correlations between them and my behavioral tendencies. Both small-cap value and real estate investment trusts (REITs) have outperformed large-cap stocks over the long term. (The correlation between REITs and the S&P 500 is higher than it used to be, though.) International stocks have experienced several multiyear periods of outperformance relative to the S&P 500. The bond fund provides me with the opportunity to react to bear markets by shifting dollars into stocks when their prices have significantly fallen.
This is an allocation I am personally comfortable sticking with regardless of what the market is doing.
Your allocation may differ, and that’s okay. Allocation is a personal decision. However, if your allocation does matter to you, and it should, then taking steps to maintain it is important. Rebalancing is a tool you can use to do so.