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Keeping Pace in a Transforming World

With market growth a moving target, regular rebalancing can help you stay on track to pursue your investment goals

INVESTING WOULD BE SO MUCH EASIER if you could plan for your financial future against a backdrop of stable markets and foreseeable global events. Yet the reality is far different. Industries or geographical regions that appear to be reliable growth opportunities or safe havens one year may be disrupted the next year by game-changing innovation or geopolitical unrest. And investments that made perfect sense one year might need rethinking the next. That process of constant review and adjustment is called rebalancing, and it's more important than ever in today's volatile markets.

"Today, it's critical to review and adjust portfolio positions at least once a year and sometimes more often."
—Cheryl RowanSenior U.S. Equity Portfolio Strategist, BofA Merrill Lynch Global Research

In 2016, the already frenetic pace of global change shifted into overdrive. Britain's historic vote on June 23 to leave the European Union, or what's known as "Brexit," is only one example of the kind of global upheaval that's roiled the markets this year. "Usually, you have about three main global concerns to focus on," says Christopher M. Hyzy, chief investment officer of Bank of America Global Wealth & Investment Management. "This year, we had six or seven." Energy prices plummeted, some interest rates abroad reached negative territory, fears of a European recession reemerged, and there were heightened financial jitters about China. Add to those financial and economic uncertainties any number of geopolitical events ranging from wars and the threat of terrorism to the most contentious U.S. presidential race in generations.

Just as unsettling is the fact that market analysts increasingly see this turbulence not as a temporary aberration, but as a new reality in an age of interconnected economies and escalating change. "Investors should expect more frequent and deeper episodes of volatility going forward," says Joseph Curtin, managing director of the Global Portfolio Solutions and Institutional Group at U.S. Trust.

Avoid Unintended Consequences
In times like these, the natural impulse may be to yield to the temptation to drop out of investment markets altogether. Yet such a move could bring serious financial risks, causing you to lose out on potential long-term growth opportunities that could emerge amid turmoil.

Instead of avoiding markets, investors need to focus on building a balanced investment portfolio, Hyzy says. "You have to be more diversified today than perhaps ever before," he explains. And then you have to maintain that balance even as changes in economic and market conditions inject risks into your investments that you never intended to take.

Consider a hypothetical investor who in 1987 set out to create a portfolio containing 60% stocks for growth, balanced by 40% bonds for income and stability. The equity market surge of the 1990s could have skewed that initial ratio, leaving the investor with 80% of her portfolio in stocks—and dangerously overexposed during the bear market that began in March 2000.



Here are two common approaches investors often take when rebalancing their portfolios.

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"Rebalancing involves paring back some of those assets that have become a larger portion of your portfolio, and investing in others that have dropped," says Cheryl Rowan, senior U.S. equity portfolio strategist at BofA Merrill Lynch Global Research. "Today, it's critical to review and adjust portfolio positions at least once a year and sometimes more often."

Sell High, Buy Low
As important as rebalancing is, investors often are reluctant to do it, Rowan says. That's because rebalancing can involve selling investments that have done well, which is painful. And the flip side of rebalancing—using proceeds from selling those winners to invest in securities whose performance has lagged—may also seem counterintuitive. "As consumers, usually we're excited to find things at bargain prices," Rowan says. "But we don't always feel that way when investing."

“One obstacle is the tendency to look at things that have happened recently, and assume that is what’s going to happen next,” says Michael Liersch, managing director, head of Behavioral Finance and Goals-Based Consulting at Merrill Lynch Wealth Management.

Make Rebalancing a Habit
Your financial advisor can help you establish a program of regular reviews, says Rowan. Those could happen about the same time each year, making rebalancing a predictable task. Or you could peg reviews and adjustments to performance, when an investment grows or shrinks beyond a preset range known as your “tolerance band.”

Revisiting your portfolio also allows you to consider whether changes in your life or your priorities may warrant increasing or decreasing your commitment to stocks, bonds and other assets.

You might also decide to adjust your approach if your investments aren’t helping you achieve your objectives. With the yield (in August 2016) on 10-year U.S. Treasury notes at less than 2%, for example, you might consider adding other bonds with higher yields that could potentially help meet your income needs, says Martin Mauro, fixed income strategist at BofA Merrill Lynch Global Research.


Rebalancing may also be a good time to prepare for possible long-term changes in the economy—such as a rise in inflation that Mauro believes could occur during the coming decade. “One potential remedy could be to buy Treasury Inflation-Protected Securities, or TIPS—bonds whose principal rises when inflation does.”

Or you can use rebalancing as a time to incorporate new opportunities in your portfolio. For example, innovations in technology and biotechnology are extending and improving lives and offering chances to invest for the long haul, says Byron Wien, vice chairman of The Blackstone Group. “I think we’ll soon see biotechnology breakthroughs in heart disease, cancer, Alzheimer’s and Parkinson’s, among other areas.”

Understand the Risks
For all of its benefits, rebalancing does carry some costs and risks, including transaction fees and capital gains taxes you may incur for selling assets at a profit. Moreover, markets are inherently unpredictable, and there’s no guarantee that rebalancing will have the intended effect of helping reduce portfolio volatility and keeping your investment plan on course. But, says Liersch, “that’s all the more reason for a careful, disciplined approach to rebalancing, always with an eye toward your long-term goals.”

3 Questions to Ask Your Advisor

  1. What steps can I take to help protect my portfolio from volatility?
  2. Does my portfolio accurately reflect my long-term goals?
  3. How often should I review and rebalance my investments?

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U.S. Treasury Inflation Protected Security is subject to interest rate risk. If interest rates rise, the market value of your Treasury investment will decline. While you may be able to liquidate your investment in the secondary market, you may receive less than the face value of your investment. As with other securities, the market prices of U.S. Treasury inflation-indexed securities will be subject to the then-prevailing market conditions. If you sell your securities in the secondary market, the price you receive may be higher or lower than your original purchase price.

Neither diversification nor rebalancing will ensure a profit or protect against loss in declining markets.

Neither Merrill Lynch nor any of its affiliates or financial advisors provide legal, tax or accounting advice. You should consult your legal and/or tax advisors before making any financial decisions.

This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation offer or solicitation for the purchase or sale of any security, financial instrument or strategy. Before acting on any information in this material, you should consider whether it is suitable for your particular circumstances, and, if necessary, seek professional advice. Any opinions expressed herein are given in good faith, are subject to change without notice, and are only correct as of the stated date of their issue.

Any information presented in connection with BofA Merrill Lynch Global Research is general in nature and is not intended to provide personal investment advice. Investors should understand that statements regarding future prospects may not be realized.

Investments focused in certain industries, such as technology and biotechnology, may pose additional risks due to lack of diversification, industry volatility, economic turmoil, susceptibility to economic, political or regulatory risks and other sector concentration risks.

Past performance is no guarantee of future results.

Equity securities are subject to stock market fluctuations that occur in response to economic and business developments.

Investing in fixed income securities/bonds may involve certain risks, including the credit quality of individual issuers, possible prepayments, market or economic development and yields and share price fluctuations due to changes interest rates. Moreover, when interest rates go up, bond prices, typically drop, and vice versa.

The case studies presented are hypothetical and do not reflect specific strategies we may have developed for actual clients. They are for illustrative purposes only and intended to demonstrate the capabilities of Merrill Lynch and/or Bank of America. They are not intended to serve as investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Results will vary, and no suggestion is made about how any specific solution or strategy performed in reality.


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