Rebalancing your portfolio - Risk mitigation - does it work for you?

While rebalancing forces us investors to comply with our stated investment policy, it also forces us to sell those asset classes that are performing the best. This is extremely difficult for most individual investors, and a brief review of behavioral finance shows why.

Overconfidence, belief perseverance and availability bias are among the various characteristics described by behavioral finance theory that may affect rebalancing decisions. Overconfidence leads us to ascribe success to our own talent. Research shows that when people are asked to assess their own skills in particular areas, 90 percent of respondents rank t h e m s e l v e s âabove average.â.

Studies in belief perseverance provide evidence that we form an opinion and cling to it too long, often in the face of data that directly contradicts their beliefs. Further research shows that when confronted with contradictory evidence, we contort it to support our views. Belief perseverance also explains how we investors become un-diversified -we select our investments based on what has performed well recently.

Availability bias suggests that recent events, especially noteworthy ones, shape our views on what to expect next. The result is that we investors extrapolate experiences of the recent past, whether good or poor, far into the future.

Disciplined portfolio rebalancing reduces the bias of these beliefs by causing us investors to stay focused on our (stated) investment policy rather than the emotion of recent successes or failures.

Let’s discuss what has worked/not worked for us in the past & why. References to the recent past of Dec 2007/Jan 2008 and the experience thereafter may provide us important insights.

No one strategy is right or wrong for me, its also about my personal situation, my temperament and my individual risk tolerance. For example riding out whole of 2008 into 2009 May entirely on a small cap portfolio, remaining 80% invested, may not be my cup of tea. I know it has worked very well for some astute valuepickrs right here in this community, hope some of you will speak up for the benefit of us all.

I remained invested 100% (not knowing better :-)) largely on a large cap dominated portfolio initiated in 2005 crash and remained unscathed and doing very well now, thank you; but rued the fact that there was such a big opportunity cost to be paid - I could only marginally bet at the extreme lows in Feb/Mar 2009; my research/homework was done, the cash was all tied up; most of my trader friends made a big killing then, while I sat twiddling thumbs!

So please also try to share why it worked for you as an individual and your stock picking style, and what did not too.




Hi Donald,

Very nice article on behavioral finance. As you say, one gets complacent when things go according to script and expectations.

Regarding my experiences with the crash, I had eyes only for three scrips during entire crash and subsequent rebound-- these being parekh aluminex, lakshmi energy and foods, and ttk prestige. I had a good time riding these and then invested in some newer stocks and made good money.

I somehow shrink away from investing in large caps and if at all feel my small caps have done their bit, prefer to sell them and sit on cash or move on to the next exciting idea.

My problem was not sticking to my winners for durations longer than I held wherein I could have made a real killing with Paral and TTK. Now when I look back, I seemed to have infinite patience with my scrips when they were range bound/going down and once they started moving up, I started getting jumpy, booking profits before the full run was complete.

Now I seem to have disciplined myself somewhat, because the hurry to book profits still lingers ,but I continue to latch on to my winners for higher levels, after having learnt from past mistakes and from other investors’ experiences.

Coming to asset allocation strategy, till date I have been 100% invested in equities and it seems to have delivered good results, but I think the time for moving into some cash may not be too far off. Some signs of froth seem to be visible with all analysts predicting higher levels and especially new IPOs descending in a hurry to make hay while the sun shines. And since I dont have a habit on sitting on cash for too long, I guess it is another learning I must undergo, or else look at something like debt funds etc to park the funds once I exit equities partially or totally.

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Thanks for sharing your views. It needs great deal of courage to re-allocate the portfolio when market is at such a peak and still going strong. The balancing of Greed and Fear is extremely important. As such I have patience toavoid major churning of portfolio, but over the learning curve I have learnt to do so in the volatile markets. One should keep in mind the famousWarren Buffet quote “One shouldbe greedy when people are fearing and should fear when people are greedy”. Thecomingfew months may have more people greedy and the time will come for us to fear.

This time I have seen some discipline in the madness of the people.

Manish Vachhani

I have started selling. At every good rise in the markets I have sold some portion of my best-performing large caps and moving the same into currently undervalued, good pedigree small caps.

How long can I/should I continue doing this? Logic tells me I can do this till we detect real froth and discernible retail frenzy all around us. When we see that kind of frenzy in the markets, when every idle conversation veers round to stocks & making money, daily newspapers (non-business) start carrying Sensex headlines, and the like.

We can’t predict when that phase will come or how fast, but I am hoping to keep my ears & eyes open (really open) to be able to detect that froth when it comes and get out before its too late!

Because I am afraid the small caps (& midcaps) get hammered much more …and then their pedigree or business excellence does not matter …they keep getting hammered down…perhaps much more than the large caps (where there is more perceived stability, perhaps).

Why should I get out at all? why not stay invested??Because of the opportunity cost. If I get out before real frenzy sets in, I can use that cash to re-invest at the market lows that inevitably follow such frenzy.

Who’s to predict the markets!? It is quite possible that the market does not get into that frenzy zone for a long time and keeps consolidating slowly from these levels. In which case it will keep making sense to invest/shift allocations to the undervalued small & midcaps.

So exclusive small & midcap pickers like Hitesh, Ayush - what has been your style, what has worked for you? Would you not get out of your small & midcaps at some time…when?? staying invested doesn’t make sense because of the huge opportunity cost that you can put that cash to good use subsequently.

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One need to keep the eyes and ears open to sense the froth early and get out in time. Nobody is going to predict the market to the perfection. It is always good to have a better sense prevailing rather than be greedy at the top like this. I would like to book partial profits(20%) in the weaker stocks and either wait or invest in the safer stocks. If find the froth, then will exit around 50% of my holding. But I really don’t see a great panic in the market as we had seen in 2008 as the retail participation is less this time and the frenzy people are still on the sideways. So need to see when these frenzy people enter the market, so that we could exit. Keep in touch with each other toanalyse the same. It isalways betterto have more opinions of the knowledgeable people around us.

Hi Donald,

I have seen just 1 bull bear cycle hence my experience is not much. I’ll share my Dad’s experiences who has been investing for more than 30 years.

Over the last 30 odd years, I have seen Dad having complete faith in the future of our stock markets…he is a die-hard BULL. He strongly believes that in the long run we have HUGE opportunities and the money lies in discovering the future winners. Yes, in the process we will have downs also and some real testing times.

His strategy has always been to keep going into stronger stocks (i.e… keep shifting your weaker ideas into stronger ones). Keep finding cos which are fundamentally strong, can do something big and available at tempting valuations. He says - we usually buy stocks which trade in single digit PE ratio, not more than 2 times BV, high Div yield…while bigger stocks trade at almost 3 times the normal valuations…so we are already having a good safety net. He tries to remain as much invested as possible.

Yes, we do diversify during market highs…in past for safety, we used to buy some real estate etc but during this cycle, we aren’t finding any good opportunity there also. Real Estate prices look all jacked up…value seems to be missing. Add to it - monitoring, maintainence issues. Also we feel the opportunity in the equities would be more.

Another thing which he follows is - he surely books profits in high flying stocks. Many often we get out from our multibaggers early :wink: He keeps finding small caps which are doing well…give good div etc.

Lets see how things unfold…interesting times ahead for sure.


Hi Ayush,

There is no replacement to the experience and that is what reflects from your dad’s view. We should share more experience with each other to make our views more relevant.

Manish Vachhani

My strategy is usually to buy my favorite small/midcap stocks and book profits at some pre determined rise so that the acquisition cost comes down. In stocks like mayur, patels airtemp my holding is practically free now. These constitute 10% each of my holding. Among other stocks, I look at short term froth and book partial profits. This strategy has worked well in the recent past, but I have been advised by many knowledgable friends to keep holding for larger profits and now am trying to do that in stocks like pondy, hov services, gillanders, vst tillers, shanthi gears etc.

Besides picking good growth stocks and making big winners out of them I feel picking turnaround stocks and holding them for some time also gives equally good returns. Some stocks on my radar currently are manugraph, himatsingka seide, shreyas shipping, etc. I have not bought these but watching them closely especially the first two because of good managements.

About moving into cash and opportunity cost, I agree with donald. But timing is difficult, so unless any definite tell tale signs of markets nearing tops come, I remain fully invested. My feeling is that this barrage of IPOs might create short term volatility and correction. I was especially pleased to see Ramky Infra issue listing at a discount, sending timely warning to the merchant bankers and promoters to leave something on the table for the retail guys in IPO pricing.

Regarding detecting froth, since everyone is looking out for froth to emerge, markets might start correcting without visible froth coming out. So I think our own judgement about valuations should be the key to getting out of the stocks we hold.

Dear All,

First of all Thank you for creating such a valuable learning center…! its really a blessing to the newbies like me.

Quick Intro: Myself 29 years old Freelancer computer engineer, started learning about investing 2-3 years back only, First started investing from Dec 2015, did buying in Jan 2016, on Brexit + demonetization.

So after the recent run up in market i am in 15% profit on 8 digit portfolio,So from last few days i have been thinking about portfolio re-balancing and adjusting the holdings with respect to their market valuation and i am unable to come up with any good thought process, luckily found this thread, since i am new to investing the urge to book profit(first profit) is tough to balance, on the other hand conventional contradictory wisdom from Guru’s is bothering me “Cut the weeds & water the flower” “Be fearful when others are greedy and be greedy when others are fearful” now flower had obvious run up and looking a bit expansive and as Donald Sir mentioned (it also forces us to sell those asset classes that are performing the best.) i want to sell current flowers and buy other few decent opportunities.

i have few question, appreciate senior members insights and experience.

  1. When market is fully priced or shifting its leadership sectors, how to re balance the portfolio:
    my obvious urge is to cut the flowers(MFI’s i bought during demonetization & some metals stocks) and move investments to current beaten down sectors(like currently realty stocks & 2 wheeler part supplier).

  2. If a value stock in your portfolio surges very quick for example (LT Foods surged more then 50% in a month) , which neither realized its true potential value, nor business fundamentals changed significantly to justify such quick move, is it good idea to sell and buy again after some correction…? or stay put with the potential hype…?

  3. Please any guidance on Investment policy when market is fully priced.

Rest i just want to restart this topic, to have more insights.

Thank you!
Best Regards,

I was 40% Pharma in the portfolio with almost zero IT stocks. Due to recent developments in global Macros after Trump got elected, I reduced my Pharma exposure to under 18% and now looking to further reduce it to 12-15% range of portfolio allocation. I have heavy exposure to B2B pharma such as Granules which I believe should continue to do well seeing their track record.

I have taken my investment allocation in quality Chemicals with moat to over 28%. This is a sector in favour, more global focused diversified to many countries and not just US unlike Pharma and IT.

I have deliberately tried to focus on Chemicals or domestic focus NBFC and private banks for better alpha in 2017. IMHO Private Financials or Housing Finances should do well seconded by Chemicals.

I would look at Pharma again sometime in 2017. But for now, rebalancing was critical to protect the capital and stabilize beta.

Key risk:

China Devaluation
Forex Losses
Subdued Consumption Demand in India


@hitesh2710 @manish962 @donald and other senior VPickers.

I find this quite strange that few of extremely important threads or topics get so little attention or posts. Just like, portfolio rebalancing. These things are, over time, much more important than mere stock picking. Correct me, if I am mistaken in my observation. I would want seniors to share more of these critical strategies from best practises, theory or experience.

I am a new investor so rebalancing is at least 12 months away, but am really confused as to what should we follow. Often the strategies are contrardicting each other.

  1. TSL method of ridding winners and cutting losers
  2. Constant weightage allocation thus cutting winners and watering losers
  3. Periodic Replacement of winners or losers basis valuation and outlook with better ideas and fundamentals

What in your opinion is advisable or you follow. Suggestions welcome!!!

My strategy now n forever is to sell when sales growth slow down in a manner that reflects in a very high PEG ratio, or the dividend yield isn’t looking good anymore during a sluggish sales growth. I do miss the top by a good margin because of this, but that is what I have done in past n do not see any better strategy for future. From here on holding a stock is pure risk aversion is what I feel. I used to be risk averse, I have made mistakes by holding things when valuation n growth n market size together seem daunting. Allocating as much as opportunity permits, specially in the winners is critical in my strategy. Avoiding risk aversion is newly added rule, so I don’t bother at all about secctoral allocation etc at all,. All sins are OK for a good buy price including high allocation in one sector.
I think I m leaning towards the #3 in your list in my approach . I am also looking more broadly about overvaluation of the sector together for sell signals. For example what if I were to buy out all the top FMCG companies, merge them together and then the total of them , do they represent valuation bigger than the market size itself.