Rebalancing aims to restore the investor’s intended portfolio diversification. It enables investors to rebalance their portfolio across different asset classes, thus aiming to ensure that they are not overly exposed to any single asset class. [Investors should consider seeking advice from a licensed financial adviser on whether portfolio rebalancing suits their needs].

In Vanguard’s opinion, a diversified portfolio is typically less volatile than one that is concentrated in just a few assets or sectors. This can be crucial for long-term growth and risk reduction.

Moreover, maintaining a diversified portfolio potentially helps investors capture returns from different sources. For instance, bonds may perform well during periods of economic uncertainty, while stocks might thrive in a growing economy. 

In Vanguard’s view, by keeping allocations balanced across asset classes, investors are better positioned to benefit from shifts in the economic landscape.

Potential benefits of portfolio rebalancing range from risk management to enhancing portfolio performance. That makes rebalancing an important consideration in a long-term investment strategy. 

Below are the main features of rebalancing a multi-asset portfolio and why investors may consider making it part of their toolkit.
 

1. Maintaining desired risk profile

A core goal of rebalancing is maintaining a portfolio that aligns with your risk tolerance. 

Asset classes such as equities and bonds behave differently in varying economic conditions. Over time, some assets may outperform while others underperform, leading to a drift in the portfolio’s overall risk profile.

For example, in a portfolio that aims for a 60/40 split between stocks and bonds, a significant bull market could cause stocks to outperform, pushing the allocation to 70% stocks and 30% bonds. 

This is illustrated below in Figure 1, where Vanguard finds that over the last 25 years, a 60/40 portfolio which is not rebalanced would have seen its equity allocation drift between 40% to 70%.
 

Figure 1. Equity allocation drift in a 60/40 portfolio with no rebalancing

Source: Vanguard. Notes: Returns are from 1/10/2000 to 29/5/2025 for a portfolio with a 60% allocation to equities and 40% to fixed income. A home bias of 40% is applied to both equities and fixed income. The benchmarks used were: S&P.ASX Total Return 300 for Australian equities, MSCI World ex Aus Net Total Return AUD Index for global equities, Bloomberg AusBond Composite 0+ Year Index for Australian fixed income and Bloomberg Global Aggregate Total Return Index Value Hedged AUD for global fixed income.

This could potentially increase the portfolio’s overall risk exposure, as stocks are typically more volatile than bonds. Rebalancing ensures that the portfolio returns to its original risk level, reducing the chance of an unwanted exposure to excessive risk.

By periodically adjusting asset weights (through buying or selling assets) investors can seek to ensure their portfolio remains consistent with their risk tolerance, whether it’s conservative, moderate, or aggressive. 

This can be particularly usual in times of volatility, as it may help protect the investor from unnecessary market downturns.
 

2. Capturing Gains - Selling high/Buying low

An innate feature of rebalancing is its potential to lock in gains by selling over-performing assets and buying into underperforming assets at a lower price.

For example, if the market experiences a downturn and bonds outperform stocks, an investor who rebalances will be buying more stocks while they could be cheaper, potentially setting up the portfolio for better returns in the future when the equity markets recover. 

Conversely, during a bull market, rebalancing may help the investor lock in profits from equities and buy more bonds, balancing the risk for the next phase of the market cycle.

Rebalancing thus supports the ‘buy-low, sell-high investment principle’. By systematically selling appreciated assets and buying those that have not performed as well, investors may be able to purchase assets at relatively lower prices, possibly improving the long-term potential of their portfolio.
 

3. Long-Term returns

Rebalancing potentially contributes to long-term portfolio performance by adhering to the initial investment strategy. 

Over time, the market cycle will cause different asset classes to perform at varying rates, but a disciplined rebalancing approach has the capacity to ensure that the portfolio stays aligned with the investor’s strategic goals.

In Vanguard’s opinion, over the long term, rebalancing at regular intervals (e.g. quarterly or annually) allows investors to benefit consistently from the buy low/sell high feature, and this may lead to better risk-adjusted returns. 

Figure 2 shows that the total wealth accumulation for a 60/40 portfolio is higher for the rebalanced portfolio (368%) versus a portfolio that is not rebalanced (337%), and this is achieved with a better risk-adjusted return. 
 

Figure 2. Wealth accumulation for a 60/40 portfolio with and without rebalancing

Source: Vanguard. Notes: Returns are from 1/10/2000 to 29/5/2025 for a portfolio with a 60% allocation to equities and 40% to fixed income. A home bias of 40% is applied to both equities and fixed income. The benchmarks used were: S&P.ASX Total Return 300 for Australian equities, MSCI World ex Aus Net Total Return AUD Index for global equities, Bloomberg AusBond Composite 0+ Year Index for Australian fixed income and Bloomberg Global Aggregate Total Return Index Value Hedged AUD for global fixed income.

4. Investment discipline and strategy adherence

Investing is often fraught with emotional decision-making, especially during periods of market volatility. Some investors may succumb to the temptation to chase hot trends or panic during a market downturn, which could lead to suboptimal decisions.

Rebalancing can add an element of discipline to the investment process. It forces investors to adhere to their original asset allocation plan, by aiming to prevent rash decisions based on fear or greed. 

In essence, rebalancing provides a structured approach to maintaining a long-term perspective, with the view to enable investors to focus on their goals rather than reacting impulsively to short-term market fluctuations.
 

Risks and other considerations 

Make no mistake, keeping investment portfolios aligned to their specific asset weightings can be a difficult and ongoing exercise. It’s actually a balancing act, because there are usually trading costs involved in buying and selling assets as well as potential capital gains tax consequences if assets are sold.

At the same time, market fluctuations may result in a rebalanced portfolio underperforming over the shorter term if the stronger-performing assets that have been sold continue to rally.

By contrast, there’s a difference between how a portfolio manager can rebalance a diversified portfolio versus the average retail investor.

Rather than having to sell assets to keep a portfolio aligned to its target weightings, portfolio managers use cash inflows into their fund to buy underweight assets whenever they can, to keep a portfolio within its target asset tolerance levels. In Vanguard's view, this can minimise turnover and reduce the need to realise capital gains in the fund.
 

Conclusion

In Vanguard’s view, rebalancing should be an essential part of managing a multi-asset portfolio effectively. With principles that aim to maintain the desired risk profile, lock in gains, potentially enhance diversification, improve long-term returns, and promote investment discipline, rebalancing may improve the success of an investment strategy.

While financial markets will always fluctuate, rebalancing allows investors to navigate these fluctuations with more confidence and structure. Rebalancing aims to ensure that an investment portfolio remains on track, aligned with the investor’s objectives and adaptable to shifting market conditions.

DISCLAIMER

Important information and general advice warning: Vanguard Investments Australia Ltd (ABN 72 072 881 086 / AFS Licence 227263) is the product issuer and the Operator of Vanguard Personal Investor and the issuer of the Vanguard® Australian ETFs. The information contained in this article is of a general nature only. We have not taken your objectives, financial situation or needs into account when preparing the above article so it may not be applicable to the particular situation you are considering. You should consider your objectives, financial situation or needs, and the disclosure documents for any relevant Vanguard product, before making any investment decision. Before you make any financial decision regarding Vanguard investment products, you should seek professional advice from a suitably qualified adviser. A copy of the Target Market Determinations (TMD) for Vanguard's financial products can be obtained at vanguard.com.au free of charge and include a description of who the financial product is appropriate for. You should refer to the relevant TMD before making any investment decisions. Past performance information is given for illustrative purposes only and should not be relied upon as, and is not, an indication of future performance. This article was prepared in good faith and we accept no liability for any errors or omissions.

All investing is subject to risk, including the possible loss of principal. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income. Diversification does not ensure profit or protection against a loss.

© 2025 Vanguard Investments Australia Ltd. All rights reserved.