Earlier today, Robert Brokamp wrote about the importance of rebalancing your investment portfolio. Over time, as your various investments rise and fall, your actual asset allocation drifts from your intended asset allocation, slowly pulling you away from your investment goals.

I’ve recently been working to rebalance my own investment portfolio, so I thought it might be instructive to walk through the process over the next couple of weeks as I try to bring things back into line. First, some background.

In the beginning…
Cats know all about re-balancing after a fall.When I started Get Rich Slowly, I had my investments at Sharebuilder. Sharebuilder was great for me because I could invest small amounts (I started with $25/week) on a regular basis. I set up a Roth IRA through Sharebuilder, and had a regular investment account too.

When I quit my day job, I needed to set up a retirement account for my business. My accountant recommended a self-employed 401(k). Sharebuilder didn’t have one. By this time, I wanted to put my money with Vanguard anyhow, so I called them up to see what they offered. They didn’t have a self-employed 401(k) either. (They offer one now, though.) So, I contacted the local Fidelity office. They had what I needed.

In late 2008, I moved all of my investment accounts to Fidelity:

  • I set up a self-employed 401(k) for my business.
  • I brought over my Sharebuilder accounts.
  • I moved my retirement savings from the box factory into a rollover IRA.
  • And I started a regular, taxable investment account.
Note: I’m not endorsing Fidelity. They’re a fine company, and the local office has been very helpful. But there are lots of great options out there. If I were starting from scratch, Vanguard would still be the first place I’d look.

On 30 June 2009, once the dust had settled, my asset allocation looked like this:

  • 4.5% in Fidelity Canada (FICDX)
  • 4.5% in Fidelity Latin America (FLATX)
  • 9.0% in Fidelity Spartan International Index (FSIIX)
  • 9.0% in Fidelity Spartan Extended Market Index (FSEMX)
  • 15.0% in Fidelity Select Energy (FSENX)
  • 4.5% in Fidelity Real Estate Income (FRIFX)
  • 7.0% in Fidelity Four-in-One Index (FFNOX)
  • 46.5% in various bonds and bond funds

Why did I choose this particular asset allocation? That’s a great question. I don’t have a great answer. I know I spent a couple of days deciding on this particular mix, but I can’t find my notes on the process. I do remember that I was still skitterish about the market, though, so loaded up on bonds and bond funds. But why so much in Canada? And energy? And where’s a plain, vanilla U.S. stock index fund?

Note: Even though my account is with Fidelity, I don’t have to buy only Fidelity funds. So far, that’s what I’ve elected to do, but I’m sure that will change in the future.

Better to be lucky than good?
This goofy asset allocation has actually performed well. I’ve been lucky. But that’s because we’ve been in a two-year bull market. Stocks have been soaring. As a result, my returns have been excellent. All together, my Fidelity portfolio is up 64.46% since I started it (for an annualized return of 22.03%). It’s up 23.59% in the past year (which beats the S&P 500’s 15.65% gain).

But I’m not willing to go on with this particular asset allocation. I want to rebalance my portfolio. This is partly because my allocation has shifted. It now looks like this:

  • 5.08% in Fidelity Canada (FICDX)
  • 5.41% in Fidelity Latin America (FLATX)
  • 9.45% in Fidelity Spartan International Index (FSIIX)
  • 11.69% in Fidelity Spartan Extended Market Index (FSEMX)
  • 18.16% in Fidelity Select Energy (FSENX)
  • 5.28% in Fidelity Real Estate Income (FRIFX)
  • 7.55% in Fidelity Four-in-One Index (FFNOX)
  • 37.39% in various bonds and bond funds

But it’s mostly because this particular mix of investments isn’t as diversified as I’d like; it’s way too concentrated in certain areas. (I mean, come on, 18.16% in an energy fund? Yikes!) So, as I re-balance, I’m doing more than just shifting my assets around. I’m going to be re-evaluating which funds I own and why.

Back to the drawing board
In a way, I’m pleased with how I’ve treated my investments over the past two years. The old J.D. would have checked them every day and agonized over every rise and fall. The old J.D. would have wanted to trade all the time, meaning he’d give away a ton in transaction costs.

The new J.D. is willing to buy into a position and leave it alone for almost two years. He ignores the financial news and trusts what he’s learned about smart investing. And, apparently, he talks about himself in the third person.

Still, it’s important not to ignore your investments completely. You need a plan, and you should monitor your investments to be sure they’re helping this plan come to fruition. That’s not happening for me, so it’s time to rebalance.

Next week, I’ll describe the second step of this process: gathering information. In the meantime, I’d love to hear about your investment habits. Do you have an investment policy statement? Did you stick with the market even when it was rocky in 2008 and 2009? What have you done about your gains? If you rebalance, how do you do it?