Research indicates that there is no one-size-fits-all optimal rebalancing strategy, and whether a portfolio is rebalanced monthly, quarterly, or annually, the returns are not markedly different. Is it a good time for reallocation of capital in a portfolio? We share our insights.

Brief Introduction into portfolio rebalancing theory

The best timing for investment portfolio rebalancing depends on a few factors, such as market volatility, life events, and investment goals. A common strategy recommended by many investment professionals is to rebalance regularly, typically every six to 12 months. Additionally, some suggest monitoring portfolio and rebalancing when an individual investment shifts more than 5% from its target allocation.

Research studiesindicate that there is no one-size-fits-all optimal rebalancing strategy, and whether a portfolio is rebalanced monthly, quarterly, or annually, the returns are not markedly different. This suggests that the timing of rebalancing should be aligned with a personal investment strategy and market conditions.

For some investors, January may be a preferred time for annual rebalancing, as it allows them to start the year with their desired asset allocation. Others might opt for a strategy that rebalances only when the market conditions cause a significant drift in the portfolio’s asset allocation, such as during times of high volatility or bull markets.

Several studies of behavioral finance reveal investors might be tempted to alter asset allocations based on market volatility instead of their financial goals.

Analyzing the stock market performance

Since November 2023 we witnessed impressive bullish stock market run with S&P500 Index appreciation of 24% and Nasdaq 100 Index rising by almost 28%. The stock market looks very bullish on the long-term chart. Currently it looks like every small retail investor is overallocated in technology and communication services stocks. And this is understandable because those sectors were among the top performing during the past few months.

Among the top-performing sectors in the U.S. stock market since November 2023 we highlight the following:

Technology Sector:

• The technology sector had an outstanding performance, with a 59.1% gain.
• AI-related stocks played a significant role in this surge. Notably, Nvidia and SMCI saw substantial gains during this period.

Main drivers behind the sector outperformance

Enterprise Spending on Software and IT Services:

• Artificial intelligence (AI), cloud computing, and cybersecurity technology are expected to drive growth in the tech market over the coming year.
• Companies are investing heavily in these areas to enhance efficiency, productivity, and security.

Generative AI:

• The tech industry is entering a transitional phase for generative AI.
• Tech companies are experimenting with applications that can further boost efficiency and productivity.

Communication Services Sector:

• The communication services sector rallied with a 54% gain.
• Companies in this sector include media, internet, telecom, and broadband service providers.
• Meta (formerly Facebook) was a top performer, benefiting from improved advertising revenue.
• Other strong performers included Netflixand Alphabet.

Main drivers behind the sector outperformance

Recovering Earnings and Enthusiasm for AI:

• The sector benefited from recovering earnings after a challenging period in 2022.
• Artificial intelligence (AI) played a significant role. Investors are enthusiastic about AI’s potential impact on the sector.

Generative AI and Digital Content:

• Generative AI is a game-changer. It can enhance efficiencies in creating digital content and advertising.
• Companies that leverage generative AI can deepen relationships with customers, driving positive results.

Valuations and Earnings Trends:

• Despite strong performance, sector valuations remain reasonable.
• Earnings estimates have been moving in a positive direction, indicating further potential.

Consumer Discretionary Sector:

• The S&P 500 consumer discretionary sector witnessed over a 41% return.
• Companies like Amazonand Home Depot contributed to this impressive performance.

Financials were also among the top performing sectors during November 2023 – year-to-date.

Main drivers behind the sectors outperformance

Financial sector significantly benefited from high interest rates and recovery in M&A activities. At the same time, consumer discretionary sector benefited from growing holiday sales and remaining solid consumer demand and purchasing power.

The potential for sector rotation in the coming months

So far, from the current macroeconomic conditions we highlight the following key factors which will affect decision for sector rotations in the investment portfolios:

Interest Rate Changes:

• Federal Reserve policy decisions will significantly impact sectors. The market expectations for the interest rate cut in July remain low (at 32%), while there is over 67% expectations of interest rate cut in September. The U.S. CPI data which should be released on May 15th, may be critical indicator for the Federal Reserve interest rate policy for the coming months. If CPI data will come unchanged or weaker than expected, we may see that consumer cyclical and renewable energy sectors start moving to the upside. Travel and leisure subsectors will benefit from improving consumer confidence.

Given the current market conditions, we highlight three sectors which could be attractive in the next months: renewable energy, consumer cyclicals andcommunication services.The renewable energy sector is showing promise and appears to be undervalued.

Coming back to sector rotation

Although we believe that the technology sector will continue its strong performance (mainly driven by high growth in Artificial Intelligence), we would recommend to perform a slight reallocation of capital into underperforming sectors, like renewable energy and consumer cyclicals. As the market remains forward-looking, we may witness rotation into these sectors, especially if the CPI data comes below expectations.

We recommend investors to reallocated some capital into such stocks as First Solar (FSLR), Stellantis (STLA), Planet Fitness (PLNT) and Enviri Corporation (NVRI).

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