Too Much Rebalancing Is Not a Good Thing

Abstract

There is now an abundance of literature showing that the equal weighted portfolio outperforms the value weighted portfolio. However, this has led to claims that the act of rebalancing itself within an equal weight strategy is what leads to outperformance, whether or not individual security returns are mean-reverting. In this paper we show that you can achieve the same, if not better, returns than that of the equal weighted portfolio rebalanced monthly by rebalancing less than half of the time. This is achieved by considering only whether the diversification benefit is increasing or decreasing over some period of time.

Keywords: Stochastic Portfolio Theory; diversification; rebalancing frequency; optimal rebalancing; equal weight portfolio

JEL Classification: G11, G15, G17