Rebalancing Your Portfolio: When and Why It Matters

Suppose you build a portfolio with a target of 60% equities and 40% bonds. A year of strong stock market performance later, without you doing anything, that portfolio might now be 67% equities and 33% bonds — simply because equities grew faster than bonds. Your portfolio is now taking on more risk than you originally intended, without any deliberate decision to do so.

This is "drift" — and rebalancing is the process of bringing your portfolio back to its target allocation.

Why Drift Happens

Different asset classes produce different returns over time — that is the whole point of diversification. But this also means that, left alone, a portfolio\u2019s composition changes. A multi-year equity bull market can push a 60/40 portfolio toward 70/30 or higher. A market downturn can push it the other way — toward 50/50 or lower, just as you may most need equity exposure to participate in the eventual recovery.

Drift is not random — it tends to move with the market. After strong markets, portfolios drift toward more risk (more equities, near a market high). After weak markets, portfolios drift toward less risk (fewer equities, near a market low) — precisely the wrong direction at precisely the wrong time, if left unaddressed.

How Rebalancing Counteracts This

Rebalancing after a strong equity run means selling some equities (which have become overweight) and buying bonds (which have become underweight) — locking in some gains and reducing risk back to target. Rebalancing after a downturn means selling some bonds (now overweight) and buying equities (now underweight, and cheaper than before) — effectively buying more of what has become less expensive.

Over time, this systematic process tends to result in selling assets after they have risen and buying assets after they have fallen — the opposite of the emotional pattern many investors fall into on their own.

Rebalancing Methods

Calendar-Based Rebalancing

Rebalance on a fixed schedule — annually, semi-annually, or quarterly — regardless of how much drift has occurred. Simple and predictable, though it may rebalance when drift is minimal (unnecessary transaction costs) or fail to rebalance promptly after a large, rapid market move.

Threshold-Based Rebalancing

Rebalance whenever an asset class drifts beyond a specified threshold — for example, if any asset class moves more than 5 percentage points from its target. This responds to actual drift rather than the calendar, but requires ongoing monitoring.

Combined Approach

Many practical approaches combine both — checking the portfolio on a regular schedule (e.g., quarterly) but only making changes if drift exceeds a meaningful threshold. This balances responsiveness with avoiding excessive trading.

Rebalancing Using New Contributions

For portfolios receiving regular contributions — RRSP or TFSA contributions, for example — rebalancing can often be achieved simply by directing new contributions toward whichever asset class is currently underweight, rather than splitting contributions evenly or selling existing holdings. This approach can reduce or eliminate the need to sell anything, which is particularly useful in taxable (non-registered) accounts where selling can trigger capital gains.

Tax Considerations in Non-Registered Accounts

In RRSPs and TFSAs, rebalancing has no tax consequence — buying and selling within these accounts does not trigger capital gains or losses. In non-registered accounts, however, selling an investment that has appreciated triggers a capital gain (and corresponding tax), which is an important factor in deciding when and how aggressively to rebalance.

For non-registered accounts, strategies to manage this include directing new contributions to underweight assets (as above), rebalancing primarily within registered accounts where possible while leaving non-registered accounts to drift somewhat more, or timing rebalancing to coincide with tax-loss selling opportunities that can offset the gains triggered by rebalancing trades.

An Illustrative Example

Scenario	Equity Allocation	Bond Allocation	Action
Target allocation	60%	40%	—
After a strong equity year	68%	32%	Sell ~8% of equities, buy bonds to restore 60/40
After a market downturn	52%	48%	Sell ~8% of bonds, buy equities to restore 60/40 — buying equities while they are lower

The Behavioural Value of Rebalancing

Perhaps the most underrated benefit of a rebalancing discipline is what it does not require: it does not require predicting where markets are headed. It does not require deciding "is now a good time to buy?" or "should I get out before it drops further?" — questions that, even for professional investors, are notoriously difficult to answer reliably.

Instead, rebalancing replaces prediction with a mechanical rule: when something has drifted from its target, move it back. This rule-based approach removes much of the emotional decision-making that leads investors to buy high (when optimism is greatest, after a rally) and sell low (when fear is greatest, after a decline) — the exact opposite of what builds wealth over time.