“Buy and hold” is a good rule. But that doesn’t mean you should never sell an existing investment or buy a new one. Here are four good reasons—and three bad ones—to make changes in your investment portfolio.
Four good reasons to revisit your asset mix
- There’s been a major change in your life. Any big life event—marriage, divorce, the birth of a child, or even a new job in a new city—is reason to think about whether your investment mix still fits your needs. For example, now that you have a child, investing for college is a higher priority than saving for a vacation home.
- Your time horizon has changed. As you get closer to retirement, you may feel more comfortable with an asset mix that favors preservation of principal rather than growth. (But don't get too conservative! Even after you retire, your life expectancy can still be measured in decades. You can't afford to abandon growth investments.)
- Your original asset allocation plan is out of alignment. If your holdings in one asset class have risen or fallen by 5% or more in the past year, it's time to rebalance. By transferring money from a high-performing fund to an underperformer, you accomplish three important goals: you reduce your risk going forward because a portfolio with too much money in one fund is more vulnerable to loss; you lock in some profits; and you potentially buy out-of-favor investments at a bargain price—positioning yourself to benefit from their eventual rebound.
- Your risk tolerance has changed. You have to live with a portfolio to discover your own comfort level with risk. If your portfolio’s volatility is giving you nightmares about losing all your money, you should consider making changes in your asset mix.
But do it in a methodical way. Instead of simply dumping your riskiest investments, reduce the risk level of your overall portfolio. You might shift from a 60% stocks/40% bonds mix to 50% stocks/50% bonds mix, for example.
Three bad reasons to change your asset mix
- You want to sell an investment because it had a bad short-term return. Remember, no investment performs well all the time. What’s more, the investments with the greatest long-term potential growth typically are also the most volatile in the short run. Stocks bounce up and down more than bond funds, for example. If you jump out of a stock investment every time it falls, you'll lock in short-term losses and forgo potential long-term gains.
- You want to buy an investment because its recent return is off the charts. It's always tempting to jump on a bandwagon. But an investment with a smoking recent performance is often overpriced. And a high current price doesn’t mean that an investment will perform well in the long run. (Investors who buy because a stock’s price is rising often sell when it falls. The result: They buy high and sell low—a sure way to lose money.) If you’re convinced the stock has long-term potential, wait for a drop in its price before buying.
- You want to buy or sell an investment because of a hot tip from a friend, a colleague or a TV talk show host. Do you really know how well-informed this person is? And remember that even if the investment is good for someone else, it may not be a good fit for you. Finally, by the time you hear this tip, it's probably old news that's already reflected in the investment's price.
Your wisest course is to choose your investments carefully, then step back and give them time to potentially grow. A good portfolio doesn’t need to be adjusted every month. Review your holdings once a year and make well-reasoned decisions about buying or selling them.