What is the purpose of rebalancing a portfolio?

Rebalancing a portfolio is primarily aimed at maintaining a desired risk profile and investment strategy. Over time, the values of different assets within a portfolio change due to market fluctuations, which can lead to an asset allocation that no longer aligns with the investor's original objectives or risk tolerance. For example, if stocks perform well and bonds do not, the portfolio may become too heavily weighted towards equities, increasing the overall risk beyond what the investor is comfortable with.

By periodically reviewing and adjusting the asset allocation back to its intended proportions, rebalancing helps ensure that the portfolio continues to reflect the investor's risk appetite and long-term goals. This process is crucial in managing risk and can prevent a situation where an investor unwittingly takes on more risk than they intended, potentially leading to undesirable outcomes if market conditions change unfavorably.