Flip-Flopping Beats Staying the Course
By Richard Schmitt
NEW YORK ( TheStreet) -- "Read my lips: no new taxes" was too hard of a pledge to keep and may very well have cost the first President Bush a chance for being reelected to a second term. He found out the hard way that voters like a reliable candidate who holds true to their shared convictions.
Similarly, investors like a company that delivers what it promises. Yet success does not necessarily follow the candidate or investor who stays the course. Instead, as with everything else in life, success comes to those who adapt to changing conditions over time.
The last 12 years provide some pretty good examples where adapting to changing conditions would have produced different outcomes. In the interest of national security, the second President Bush ordered the invasion of Iraq in search of nuclear weaponry eventually found not to exist. Unfortunately, a continuation of "sticking to his guns" -- at a staggering cost to Americans of a trillion dollars and 4,500 lives before U.S. troops finally withdrew from Iraq at the end of 2011 -- as well as a faltering economy ultimately took a toll on Bush's legacy.
Perhaps a reversal, or flip-flop, in foreign policy would have ended our involvement in Iraq earlier and salvaged some of the Bush legacy.
Not nearly as tragic, buy-and-hold investors have nothing to show for holding a broad U.S. stock portfolio in a market hovering near levels first reached over 12 years ago. Closing at 1412.16 on Oct. 31, the Standard & Poor's 500 index is about 4% lower than where it started at the beginning of 2000.
Of course, along the way, investors had to endure some market volatility in the form of two major market downdrafts and rebounds, only to find their stock portfolios back where they started in 2000.
Investing in this type of volatile market headed nowhere is also a case where some flip-flopping -- otherwise known as rebalancing in investment parlance -- would be in order.
Portfolio rebalancing is a time-tested approach to take advantage of market volatility. Beginning with a balanced portfolio, rebalancing essentially involves selling some outperforming assets to reap gains and plowing the proceeds into underperforming asset classes poised to rebound. Each rebalancing is intended to restore a portfolio back to its original or target asset allocation.
In an uncertain market headed in no apparent direction, more frequent rebalancing generates more lasting gains over time. When generated through fund exchanges within a retirement savings portfolio, these lasting gains from rebalancing are unfettered by immediate income taxes or direct trading costs. Since retirement savings account fund options are generally valued once a day at the market close, you could even rebalance your retirement savings on a daily basis as long as you abide by the funds' frequent trading rules.