Asset allocation methodology

[Peblo]

Many experts advise to have certain percentage allocations to equities and cash in your portfolio. Assuming you rebalance every month using current market values, there might be a situation where you end up with close to zero cash and 100% equities if the equities just keep dropping and you keep on buying them.
Is there any logic in this? How do you prevent your allocations from diverging too much from your target percentage values?

 

[AbbotAle]

For longer term investing rebalacing too quickly (monthly for example) is probably not the best way.

Quarterly is better but the Permanent Portfolio, probably the best set/forget portfolio strategy out there, suggests doing it yearly. I agree.

25% Cash
25% Stocks
25% Bonds
25% Gold

(Some have been adding a 5% Bitcoin allocation, makes sense. Or make it 4% and take a point off the above allocations).

 

[Peblo]

My point is that when you strictly follow the rebalancing and keep buying falling equities, you may end up with no cash. Do you set a bottom limit on cash percentage, say 10% and do not touch it anymore when it drops to that?

 

[ironchef]

My point is that when you strictly follow the rebalancing and keep buying falling equities, you may end up with no cash. Do you set a bottom limit on cash percentage, say 10% and do not touch it anymore when it drops to that?

Mathematically you will never be out of cash if you maintain the same % every month.

 

[danielc1]

Ray Dalio wheater proof portfollio, once a year reset:
7.5 % gold
7.5% commodities
60 % bonds (40% long term, 20% short term)
25 % Stocks

 

[Peblo]

Starting point: 100k USD total (60k equities, 40k cash). target 60% equities, 40% cash
Rebalance 1: equities 30k, cash 40k -> buy equities for 12k -> equities 42k, cash 28k
Rebalance 2: equities 21k, cash 28k -> buy equities for 8.4k -> equities 29.4, cash 19.6k
...
Eventually, there will be nearly zero in equities and nearly zero in cash.

 

[ironchef]

Starting point: 100k USD total (60k equities, 40k cash). target 60% equities, 40% cash
Rebalance 1: equities 30k, cash 40k -> buy equities for 12k -> equities 42k, cash 28k
Rebalance 2: equities 21k, cash 28k -> buy equities for 8.4k -> equities 29.4, cash 19.6k
...
Eventually, there will be nearly zero in equities and nearly zero in cash.

Nearly zero is not zero.

 

[Peblo]

For me it is even more complicated as I will never sell any equities myself - only the ETF managing company will do that "in the background" when indexes are rebalanced, for instance. So I can only add to equities part and only deduct from cash part of the portfolio

 

[BlacknBlue]

Why hold cash if there are plenty of alternative funds that produce stable mid-high single digit returns without barely any volatility? Not talking about traditional bond funds.

 

[HobbyTrading]

My point is that when you strictly follow the rebalancing and keep buying falling equities, you may end up with no cash. Do you set a bottom limit on cash percentage, say 10% and do not touch it anymore when it drops to that?

Another approach is to not rebalance on a fixed date (e.g. monthly, quarterly, yearly), but rebalance when the asset allocation deviates too much from your intended allocation. For example: your desired allocation is 60% equities, 40% cash. Now you wait until your actual allocation changes to 50/50 or 70/30 and then rebalance back to 60/40. The benefit of this approach is that you only trade when it is really necessary and not "because the calendar says so". Thereby reducing trading costs (commission, spread).