My 401(k) realized a pretty decent gain last year and I’ve been reading about the need to rebalance my portfolio in order to bring it back in line with my original allocation plan. What about my future contributions? Should they be adjusted as well?
You’ve brought up a very important aspect of long-term investing. Over time, your initial allocation strategy can become skewed due to strong movements in the market. For example, when the stock market has large gains in a given year, the allocation of stocks and bonds is likely to be much more heavily weighted towards stocks at the end of the year. This can increase your risk exposure in a way you had not originally intended.
Although the temptation may be to let your profits run, any increased volatility may hurt your long term performance. So, rebalancing is used to bring your allocation back in line with your strategy. Rebalancing should occur at least once every 12 to 18 months to prevent unwanted risk or volatility from creeping into your portfolio. More frequent rebalancing may be appropriate in times of increased volatility and market fluctuations.
Regarding future contributions, unless something changes in your risk profile or investment objectives, they should remain as is. As long as you rebalance your portfolio, your contributions should continue to reflect your original asset allocation strategy.
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