Model portfolio annual rebalancing incurs minimal costs, says Zenith

Annually rebalancing model portfolios incurs an average cost of 0.05 per cent in terms of the buy/sell spread, according to Zenith Investment Partners.

Zenith stated that through its involvement with financial planning dealer group investment committees, two of the most often asked questions were how often model portfolios should be rebalanced and what are the costs. To answer these questions, Zenith constructed a sample balanced model portfolio and back-tested it over a 10-year period ending March 31, 2010.

Two of the findings were that an annual rebalancing approach was cost effective and sensible from a risk management and tax management perspective; and that the cost in terms of buy/sell spread averaged only 0.05 per cent per annum.

Zenith also discovered that while annual rebalancing helped protect against volatility, frequent rebalancing periods, either six-monthly or every quarter, did not improve on the volatility profile above what was achieved by annual rebalancing.

Zenith found that based on the weighting to each fund in the sample portfolio, the average buy/sell spread was approximately 0.25 per cent, and that for each annual rebalance approximately 10 per cent of the portfolio’s assets would need to be rebalanced. By multiplying the 10 per cent by 0.25 per cent to calculate the sell costs, and then doubling the total to calculate the buy costs, the overall cost of rebalancing was calculated to be 0.05 per cent.

“For those investors with new cash to invest, these rebalancing costs will be even less as they can direct the new cash to areas that need to be topped up to their required weight,” said Zenith associate director Glen Franklin. “This is also more efficient from a tax perspective where assets may not need to be sold to rebalance those assets that require topping up.

“By rebalancing a portfolio, an investor is effectively topping up on underperforming (and potentially attractively valued) assets and selling outperforming (and potentially expensively valued) assets, which in Zenith’s view is a great discipline to have over the long term.”