How to Balance Your Portfolio

How to Balance Your Portfolio

Plan 5 is really very simple — all you need to do is balance your portfolio at the beginning of each period. If you’re following Plan 5 Monthly, then a period is one month; for Plan 5 Quarterly, a period lasts three months. Balancing your portfolio means that the total amount of money that you’ve put aside to invest in Plan 5 is (roughly) equally split between all five of the stock picks for that period. A month later (or three months later for Plan 5 Quarterly), you re-balance your portfolio to be split evenly among all five of the new period’s picks. And so on. That’s all there is to it!

The simplest way to balance your Plan 5 portfolio is to use the Balance Calculator, which will ask you a few simple questions and then do all the math for you. If you’d prefer to do the math yourself, or just want to learn about what’s involved, then read on!

Starting Out

The first thing you’ll need to do after you decide to invest using Plan 5 is to choose whether to follow Plan 5 Monthly or Plan 5 Quarterly. For Plan 5 Monthly, new picks are published before the first trading day of each month, and so you’ll want to re-balance your portfolio on each month’s first trading day (or as soon after as possible). If you choose Plan 5 Quarterly, you’ll only be re-balancing your portfolio on the first day of every third month — February, May, August, and November.

If you’re just starting out and haven’t yet invested using Plan 5, you’ll want to make sure you have a good discount brokerage service, that you’ve decided how much money to begin investing with (you can always start small and add more later once your confidence in Plan 5 has grown, if you’d like), and that you’ve moved that amount of money to your brokerage service account. Now you’re ready to invest. All you need to do next is sit tight a little longer until the start of the next period, when the newest set of picks is published. (Alternately, if you’ve chosen Plan 5 Quarterly and there’s still more than a month until the beginning of the next period, you might consider investing for the remainder of the quarter in the current period’s set of picks.)

Balancing your portfolio among your first set of five picks couldn’t be easier. Simply take the total amount of money that you’ve set aside for investment, divide it by five, and invest as close as possible to that target amount in each of the five picks. In general it won’t be possible to divide the amount exactly equally, or to invest every last penny of it, due to the fact that stock share prices vary and probably won’t divide evenly into the target amount that you’re looking to invest in each stock. Say you have $5000 to invest, and so your target amount for each individual investment is $1000. If one of the picks has a share price of $87, then the closest you’ll be able to get to investing $1000 in that stock is by investing $957 (the cost of 11 shares purchased at $87 each). For some of the stocks you’ll end up buying a little less than your target amount, and for others you’ll end up buying a little more than your target amount. The idea is to get close to an equal five way split among the picks — don’t sweat the fact that it won’t be perfect.

Next Time Around

One month after your first investment (or three months later for Plan 5 Quarterly), it’s time to re-balance your portfolio. On the first trading day of the next period, with the new set of picks in hand, your job will be to get your portfolio to be as evenly divided as possible between the five new picks.

There is of course a very simple, straightforward way to do this. Just sell the full amount of your five investments for the previous period, and start over again. Take the total amount of money set aside for Plan 5 (which may have gone up or down over the course of the previous period), add or remove money if you’d like, and divide the new total by five to determine the target amount you’d like to invest in each stock. Then invest as close as possible to that amount in each of the five new picks. Presto, your portfolio is re-balanced!

That simple method works great and is very quick and easy. The only problem is, it wastes a few dollars. Selling all five of the previous picks and buying the correctly balanced amounts of all five of the new picks adds up to a total of 10 transactions, each of which you’ll likely have to pay somewhere between $5 and $10 for, depending on your brokerage service. The thing is, often several of the picks will carry over from one period to the next. Let’s say that three picks carry over and two are new (which is fairly typical). You’d definitely have to sell the two old picks that are being replaced, and buy the two new picks. For the remaining three that carry over, you’d have to either buy or sell some shares of each of the three of them, to bring your total investment in each of them as close as possible to your target amount. So in this case, you could get away with 2+2+3 = 7 transactions, instead of 10. That’s a savings of $15 to $30, depending on your brokerage’s transaction cost. Over the course of a year, these unnecessary transaction charges can add up, especially if you’re following Plan 5 Monthly, and so re-balancing your portfolio twelve times in a year.

So, going the simple route of selling all five of your old investments and then buying your five new investments from scratch has both advantages and disadvantages. It’s simpler and faster. It’s recommended if math just isn’t your thing. However, it does waste some money that could be going into your investments instead of into your brokerage’s pocket. If you’re following Plan 5 Quarterly, and if you use a low cost brokerage service that charges $5 to $7 per trade, then you’ll likely waste less than $100 per year going the simple route. But if you’re following Plan 5 Monthly or using a higher cost brokerage, the difference may be several hundred dollars instead. In that case, I’d recommend putting in just a few extra minutes each period to get the most out of the fewest transactions possible. It’s really not that much more complicated — here are step-by-step instructions for how to do it:

  1. Start by adding up the values of all five of your existing holdings from the last period. Add to this sum any new money that you want to invest (or subtract any amount that you want to remove from your investment to put to a different use). The result is the total amount of money you will be investing in the new period.
  2. Divide this total amount by five to determine the target amount of money that you should have invested in each of the new period’s picks.
  3. If any of the previous period’s picks have not carried over to the new period, sell all of your shares of those picks.
  4. For each pick that has carried over from the previous period, and for which the total value of your holding is greater than your target value for the new period, sell however many shares of that pick that you need to in order to bring the value of your holding as close as possible to your target value for the new period.
  5. For each pick that has carried over from the previous period, and for which the total value of your holding is less than your target value for the new period, buy however many shares of that pick that you need to in order to bring the value of your holding as close as possible to your target value for the new period.
  6. For each of the new period’s picks that was not a pick for the previous period (and so you do not yet own any shares of), buy however many shares of that pick that you need to in order to bring the value of your holding as close as possible to your target value for the new period.

That’s all there is to it; after a few runs through you’ll find that the process is really very fast and simple. And remember that if math just isn’t your thing, then it’s perfectly okay to take the simpler route and just sell everything and buy again from scratch at the start of each period. If you do this, I only suggest that you follow Plan 5 Quarterly to minimize the number of transactions and use a low cost brokerage to minimize the cost per transaction.