Practical Applications of Rebalance Timing Luck: The Difference Between Hired and Fired

Practical Applications Summary In Rebalance Timing Luck: The Difference Between Hired and Fired from the Summer 2019 issue of The Journal of Index Investing, authors Corey Hoffstein, Daniel “Justin” Sibears, and Nathan Faber (all of Newfound Research in Boston) warn that index fund managers may be overlooking a significant factor driving their investment performance: the date when they rebalance their portfolios. Rebalancing is essential to sound portfolio management, but most managers give little thought to when to do it. Hoffstein, Sibears, and Faber say that is a mistake. They introduce the concept of rebalance timing luck, showing that portfolios rebalanced in different months perform differently over time. This can mean major long-term earnings shortfalls for managers with bad rebalance timing luck. To solve this problem, the authors suggest dividing index funds into identically managed subportfolios, rebalancing the subportfolios on different dates equally spread out over the year, and then equally redistributing all of the fund’s assets across the subportfolios. They find that fund managers can substantially decrease the effects of rebalance timing luck just by dividing a fund into four subportfolios and rebalancing one per quarter—a simple way to potentially shield themselves and investors from bad rebalance timing luck. TOPICS: Mutual funds/passive investing/indexing, portfolio construction, performance measurement, statistical methods