2025-04-08T06:33:51.000Z

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In the world of investing, timing the market can often feel like a high-stakes game. Recent data from September 2024 suggests that investors who took the proactive step of rebalancing their portfolios during a market surge experienced significantly less distress when the market subsequently crashed.

Historically, when markets spiral into chaos, investors tend to reassess their asset allocation strategies. However, experts argue that this reactionary approach can be counterproductive. Instead, regular and disciplined rebalancing is crucial for managing portfolio risk and stabilizing returns over the long haul. This is not merely a theoretical approach; studies have shown that timely rebalancing can effectively mitigate losses during market downturns.

In September 2024, when the equity markets were at their peak, investors who made adjustments to their portfolios found themselves better positioned for the months that followed, as the markets took a downward turn. However, the very concept of rebalancing often feels counter-intuitive to many investors. It necessitates the practice of purchasing underperforming assets while selling those that are thriving—an approach that can be difficult to embrace.

During the first half of 2024, for instance, a staggering net inflow of ₹30,350 crore into small and mid-cap equity funds indicated that many investors were heavily investing in assets that were already performing well. This tendency to chase after high-performing assets can create an unsustainable investment environment, leading to heightened risk when market conditions shift.

Market analysts highlight that while investors cannot directly control market volatility, they can and should manage the risk within their portfolios. Any significant movement in asset classes should be viewed as an opportunity to rebalance. Following the peak in September 2024, equity markets saw a decline of over 15%. This decline serves as a critical reminder for investors to reassess their asset allocation. Just as the previous bull run had increased equity proportions in many portfolios, the current downturn is likely to reduce them.

Nevertheless, the challenge remains that many retail investors who could not resist the temptation of greed during the market highs may now struggle to overcome their fears during the downturn. This is particularly relevant for novice investors who have never navigated through market declines and are contemplating exiting their investments to avert further losses. Such a reaction could lead to a permanent loss of capital, converting notional losses into actual, realized losses.

Moreover, for certain mutual fund investors, rebalancing may not be necessary. Dynamic asset allocation funds, for example, are designed to automatically adjust their investments based on market conditions. These funds reduce their equity exposure when the price-to-earnings (PE) ratio of their chosen benchmark exceeds a specified level, and conversely, they increase equity investments when the benchmark PE ratio falls. Consequently, these funds have demonstrated a smaller decline—around 5.5% over the past three months—compared to the more significant 15-18% drop seen in traditional equity fund categories.

For those considering rebalancing their portfolios, there are tax implications to take into account. Gains from debt funds purchased before April 1, 2023, are eligible for indexation benefits, whereas gains from investments made after this date will be taxed as ordinary income. Furthermore, premature withdrawals from fixed deposits yield lower interest rates, and selling stocks or equity mutual funds within a year incurs a capital gains tax of 20%.

Yet, it is essential for investors to look beyond mere tax considerations and focus on the psychological benefits of rebalancing. Rebalancing can be a powerful tool for wealth accumulation, as it can help investors maintain composure during market downturns. By sticking to a rebalanced strategy, investors are more likely to remain invested rather than succumbing to panic—a reaction that can lead to significant financial losses.