Time For A Trim? How Cutting A Little Now Can Save You Misery Later

We know that many investors are unnerved by the recent gyrations in the stock market. Look one minute and the market is up 600 points. Check a few minutes later and it’s down 500. It’s starting to sound a lot like the lyrics from Katy Perry’s “Hot N Cold.”

We know it can drive people crazy, but it doesn’t always mean you need major changes in your portfolio.

But there are a few things you should be doing now to keep on track in this bipolar market:

Keep the allocation on track

Take a moment to check your investment allocation, and rebalance as needed to ensure your portfolio still fits your overall investment objectives. Stocks had a good growth spurt last year, so the portion of your portfolio invested in stocks has probably outgrown target percentages. It could be time for a trim.

(By the way, you don’t to rebalance that often. A good rule of thumb is to wait to shift funds around until you’re off target by 5% or so.)

Shuffle the deck

It’s also an opportune time to shuffle your holdings in response to evolving market conditions. Many investors are overweight large company stocks, and underweight international investments. Others have too much in low-growth, high-dividend stocks that could be hurt by rising rates. Check your bond holdings as well; some could take a beating with potentially higher inflation and interest rates, while others can adjust to climbing rates and inflation. The economic environment is constantly changing, so treat your investment mix to a tune-up. Think of it like a periodic oil change for your portfolio.

Trim some off the top

Too much in one stock? That can be a dangerous vulnerability. The traditional rule of thumb is that no one stock or company should make up over 10% of your portfolio. 5% is even better.

Of course, we all know how hard it is to cut when you have a too-big position with hefty unrealized capital gains. If you do have a holding that’s grown too big, try to pare it back gradually, by taking small gains and reducing the position over time. It’s often helpful to decide how much you’re willing to pay in taxes, and then sell shares to match. Clearly no one wants to pay taxes, but we’ve had way too many examples (Wachovia, Lucent, Enron among others) of how much you can lose when a big position goes bust. Moral of the story: it’s better to pay a little in taxes each year than lose a lot in market declines.

About Mari Adam

Mari Adam, Certified Financial Planner™ and President of Adam Financial Associates Inc, has been helping individuals and families chart their financial futures for over twenty-five years. Have a question about your financial situation? Ask Mari!

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