The Investment Scientist

Posts Tagged ‘rebalancing bonus

images-58In the arena of academic finance, the debate over whether a rebalancing “bonus” exists or not has become somewhat of a religion!

Those who are ardent believers of an efficient market such as Nobel Prize winner Eugene Fama usually believe all returns should be the result of taking risk and that simple actions like rebalancing periodically should not produce additional returns.

Those who believe the market is emotion-driven, such as Nobel Prize winner Robert Shiller, believe in a rebalancing “bonus”. Since the market is either over-priced or under-priced from time to time, rebalancing allows us to take advantage of this market mispricing.

The return differential of RSP vs SPY provides an excellent control experiment to test whether this illustrious rebalancing “bonus” actually exists. SPY and RSP invest in the same 500 largest stocks of the US. SPY being a cap-weighted fund, does not require rebalancing, while RSP being a equally weighted fund requires periodic rebalancing.

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Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC. He is also a regular contributor to Morningstar Advisor and Physicians Practice. To explore a long-term wealth advisory relationship, schedule a discovery meeting (phone call) with him.



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