Category: Investment Management

Difference between Portfolio Evaluation and Portfolio Re-Balancing

Difference between Portfolio Evaluation and Portfolio Re-Balancing

Once you’ve thought about your goals, considered your time horizon and risk tolerance, researched your options and made your investments. Now you can just sit back and relax, right? Not so fast. In order to maximize the performance of your investments (both individually and across the board) and ensure you’re staying on track with your specific goals, you need to monitor your portfolio – making changes and reallocation is needed.

Portfolio Evaluation

A typical portfolio evaluation will have the below parameters-

1. Risk Profile and Asset Allocation – Evaluate if your portfolio will be – Conservative / Moderate / Aggressive based on the asset mix and proportions.

2. Portfolio Risk-Return against benchmark – Analyse your current portfolio mix across asset classes – Debt / Equity / Cash / MF / Alternate. The returns on a portfolio should be evaluated with the risk associated with the investments. It is obvious to expect higher returns from a riskier portfolio. Compare your risk return with a similar product of similar allocation mix. Compare the Standard Deviation of your risk to the Standard deviation of a market standard product.

3. Historical return of Portfolio – Individually and collectively as an asset class, compile and compare the returns of investments over the same time frame. Returns of each stock and also as a part of an asset class / sector is examined.

4. Stock Portfolio Diversification Risks – Is an analysis of the Diversification of your portfolio and tests if the portfolio is on the efficient frontier. Diversification reduces the company specific risks in your portfolio.

Using Mean Variance Optimization ( MVO ) or the Sharpe Ratio . Generally, the greater the value of the Sharpe ratio, the more attractive the risk-adjusted return.

Sharpe ratio = (Mean portfolio return − Risk-free rate)/Standard deviation of portfolio return

Treynor Ratio = (Average Return of a Portfolio – Average Return of the Risk-Free Rate)/Beta of the Portfolio.


Portfolio Rebalancing

So you’ve established an asset allocation strategy that is right for you, but at the end of the year, you find that the weighting of each asset class in your portfolio has changed. What happened?

Over the course of the year, the market value of each security within your portfolio earned a different return, resulting in a weighting change. Portfolio rebalancing is like a tune-up for your car: it allows individuals to keep their risk levels in check and minimize risk.

The optimal frequency of portfolio rebalancing depends on your transaction costs, personal preferences, and tax considerations—including what type of account you are selling from and whether your capital gains or losses will be taxed at a short-term versus long-term rate.

Usually, about once a year is sufficient; however, if some assets in your portfolio haven’t experienced a large appreciation within the year, longer time periods may also be appropriate.

Additionally, changes in an investor’s lifestyle may warrant changes to his or her asset-allocation strategy.

Rebalancing your portfolio will help you maintain your original asset-allocation strategy and allow you to implement any changes you make to your investing style. Essentially, rebalancing will help you stick to your investing plan regardless of what the market does.

A good rule of thumb is that you check your portfolio once each year to rebalance it and stay in line with your target asset allocation.

Sneha Ramamurthy

Dilzer Consultants Pvt Ltd