Rebalancing with new money

[chrish]

I started investing in a PP around one month ago. Since then, stocks and gold are both up, and LT gilts are down quite sharply (dropped around 4% in the last week).

For the first time I now have new money to contribute, and I was wondering what people would advise me to do with it. The money has been paid into a SIPP by my employer. The SIPP provider automatically adds it to my cash account, but this earns zero interest so I don't want to keep it there.

I reckon I have three options:

1) Use the money to bring all the assets back to the correct percentage. However, if I did this every month, I worry that the increased dealing fees would eat into my returns.

2) Invest all the money in the lagging asset (long duration gilts in this case). However, the new money would then lift this asset ABOVE the target allocation.

3) Invest enough money in the lagging asset to bring it back to the target allocation, and leave the remainder of the money uninvested.

I'm surprised how hard it is to convince myself to buy more gilts when I have just seen them drop sharply in price! My head tells me that they are now 4% cheaper than they were a week ago, but my heart is reluctant to invest in something that has just lost me money!

[MediumTex]

Option #1 should be to add to cash.

Option #2 should be to add to the lagging asset.

[stone]

Chrish, I sort of think it is worth saving up as cash until dealing fees are less than about 0.25% of what you are getting (do other people have some other rule of thumb?). Having some money in zero interest cash for another month or so isn't a disaster is it? Perhaps by then one of gold, stocks or LTT will have swung enough such that a single cost effective trade will not push any of them above 25%.

I agree that pushing a falling asset above 25% by making a new addition beyond what it had lagged by would fly in the face of evidence that almost all asset classes show price momentum.

[Lone Wolf]

I think that both option #1 and option #2 will work great.  I happen to use option #2 but option #1 is very effective.  I just happen to enjoy being "pretty close" to 4x25 much of the time.

Chrish, I sort of think it is worth saving up as cash until dealing fees are less than about 0.25% of what you are getting (do other people have some other rule of thumb?).

Right, something like that makes a lot of sense.  I imagine that everyone's got their own rule of thumb.

One consideration is that some assets are more expensive than others to purchase and much of this will be down to what asset you're looking to buy.

For example, Fidelity and Vanguard allow free purchases of US Treasury securities.  This means that if I find myself a bit low on T-bills or LT bonds, I don't really have to wait around to make a purchase.  For these you can do whatever you like whenever you like.  The only downside will be that tracking lots of small purchases might be slightly more work.

Purchasing a hunk of an S&P 500 or Total Stock Market index fund might run you $7-$8 per trade.  For that it might make sense to queue up $4-$5k or more in order to follow the "stone rule".   

Gold will be the most highly variable one.  Sometimes you can get the best deals on gold by waiting until you have a decent chunk of cash built up.  Outfits like Tulving, for example, offer good prices but require large purchases (20 ounces+).  If you need to rebalance into gold, it may be beneficial to let slightly more cash to pile up than for other assets.  That one will all be down to what sort of deal you can get.

[Reub]

Option #1 should be to add to cash.

Option #2 should be to add to the lagging asset.

Option one says add to cash until you reach a rebalancing band. Is that the preferred option? Isn't it possible to end up with a lot of low-interest cash until a band is reached?

[chrish]

Thanks for the advice folks.

Option one says add to cash until you reach a rebalancing band. Is that the preferred option? Isn't it possible to end up with a lot of low-interest cash until a band is reached?

This is my concern with this option - and in my case it would actually be earning ZERO interest. Presumably this is the preferred option because it allows more time for trends to develop. Is there any empirical evidence that this results in higher returns?

Chrish, I sort of think it is worth saving up as cash until dealing fees are less than about 0.25% of what you are getting (do other people have some other rule of thumb?). Having some money in zero interest cash for another month or so isn't a disaster is it? Perhaps by then one of gold, stocks or LTT will have swung enough such that a single cost effective trade will not push any of them above 25%.

This makes a lot of sense. However, given the relatively small size of my portfolio, any single deal of this size is likely to push the asset above the allocation, so I reckon I will have to go with dealing fees of 0.5% or even 1% to make this doable, at least until the portfolio is bigger.

[stone]

chrish, I suppose the bottom line is just to keep an eye out for costs and to realize that having a float of a couple of thousand pounds earning no interest would be preferable to say spending £30 every month on dealing fees for paying in say £600 split between three holdings or whatever.

[chrish]

Yeah, that's basically the conclusion I came too. I think I will sit on the money until I can spend at least £1000 on an asset without taking it over its allocation

[KevinW]

As others have said I think the performance of the two approaches is about the same.  However I prefer to add contributions to cash because that way the process can be automated and I'm not forced to look up, and think about, the value of each asset on a monthly basis. Psychologically it seems to work better to look at the portfolio components as rarely as possible and the buy-the-lagging-asset approach forces you to look at the components often.

[Tyler]

Personally, I've been taking a hybrid approach -- letting new cash accumulate in a checking account  (or the sweep MM account in my 401k) until it hits about 10k, and then topping off my four assets to make them even each time (or closer than they were, at least).  That way I'm keeping fees low, avoiding intentionally over-weighting cash in the portfolio, and delaying capital gains for tax purposes -- it'll be a while before I need to worry about selling an asset to rebalance. 

[Storm]

Personally I usually add to a lagging asset, because I can always buy more of my S&P 500 Index fund for no trading cost, as well as LT treasury bonds on the secondary market for free.  The only time I wait is if gold is lagging - then I'll just sit in cash until I can put enough in that the trading cost is minimal as a percentage of the asset.  For me that means usually around $2,500 for a $7.95 commission or so.