What does effective rebalancing help to lower?

Effective rebalancing is a crucial process for maintaining an investment portfolio's intended risk and return profile over time. When a portfolio is rebalanced, its asset allocation is adjusted back to the predefined targets, which can change due to market movements—some assets may outperform while others underperform.

By rebalancing, an investor can manage the risk level of the portfolio. For instance, if equities outperform significantly, they may occupy a larger share of the portfolio than intended, increasing overall risk exposure. By selling some of these equities and reallocating the proceeds into underperforming assets, the investor can restore the desired risk level. Hence, effective rebalancing directly contributes to controlling and mitigating the overall portfolio risk, making it a critical aspect of investment management.

This process can also support maintaining the portfolio's expected return, as it ensures that the investor doesn't become overly concentrated in high-performing areas—echoing the principle of diversification. While rebalancing can influence other factors, such as the dividend yield or transaction costs, its primary benefit lies in stabilizing the risk profile of the portfolio. Ultimately, rebalancing helps preserve the investment strategy aligned with the investor's risk tolerance and financial goals.