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How to become an expert mutual fund investor: Balance is the key

This is the third in our seven-part series where we share all that you need to know to make profitable mutual fund investments.

23-Dec-2021 •Omkar Vasudev Bhat and Shruti Agarwal

Now comes probably the boring but a critical part of your journey - rebalancing your portfolio's asset allocation periodically.

As our investments start to grow over a period of time, we tend to undermine the importance of portfolio rebalancing. However, you should keep an eye on your portfolio every once in a while, probably once every six months or so and see whether or not your asset allocation is in line with your financial plan.

Here you can follow some rules of thumb like whenever the actual allocation moves away by more than 5-7 per cent from the predetermined level, you can rebalance your portfolio by redeeming your investments in the asset class which has gained in your portfolio and investing in the other one. For instance, you want to keep the equity-debt ratio of your portfolio as 70:30. Now, in the bull run, as equity rises, your equity portfolio may become 80 per cent of your total portfolio, with a corresponding decline in the debt allocation. Then, you can sell a part of your equity gains and invest in debt. However, in that case, you are likely to incur taxes and exit load as applicable, which is an additional cost and you also lose the compounding benefit on the money paid. To address this issue, you may decide to split these gains between two financial years so as to take the advantage of the exemption of up to Rs.1 lakh on long-term capital gains on equity.

Alternatively, if you are a relatively new investor, you can achieve this rebalancing by directing all your incremental investments through SIPs or lump sums towards the asset class that has seen a drop in its allocation. This would help you avoid incurring any unnecessary costs (monetary as well as in terms of time and effort) related to rebalancing and let the amount grow further.

Rebalancing also automatically takes care of profit booking during a market rally and alleviates your worries of a market correction. On the other hand, when you rebalance during a market fall, you are essentially buying more equity when it is out of favour, which helps you average your cost price lower.

Hence, rebalancing assets in your portfolio is a disciplined approach for managing it, as it helps you avoid 'timing the market', which, as we all know, hardly ever works on a consistent basis. A Sanskrit saying is 'Ati sarvatra varjayet' (excess of anything is bad), which can't be more apt in this case.

Also in 'How to become an expert mutual fund investor' series:

Part 1: Know thyself

Part 2: Begin with the end in mind

Part 4: Avoid hitting bumps

Part 5: Don't forget the reverse gear

Part 6: Cherry-picking funds

Part 7: Be a sage