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Diwali Cleaning for Your Wealth: Declutter and Rebalance Your Investments

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With the festival of lights in the next few days, it’s time for Diwali cleaning and renewal. Beyond home cleaning, it’s also an opportunity to review and “clean” your investment portfolio, discarding underperforming or risky assets to pave the way for a healthier financial future. As you remove unused items from your home, eliminating non-performing investments can lead to a streamlined, profitable portfolio.

Market experts know the risks in small-cap funds, with many mutual fund houses suspending lump-sum investments due to high valuations. Some fund managers hold cash reserves, waiting for valuations to adjust before investing. While this approach may miss potential gains if stock prices rise, it helps safeguard portfolios against possible losses. 

This guide will help you identify and remove assets dragging down your financial growth.

Why You Need a Portfolio Diwali Cleaning?

Much like the clutter in our homes, investment portfolios can gather clutter over time. Underperforming stocks, funds that no longer align with your goals, and risky investments that no longer fit your risk tolerance should all be evaluated. Diwali cleaning your portfolio enables you to:

  • Reduce Financial Risk: Identify and remove risky or low-performing investments to make room for better growth options.
  • Realign with Goals: Ensure each investment aligns with your updated financial goals and timeline.
  • Increase Profit Potential: Removing stagnant investments allows you to reallocate funds to opportunities with better growth potential.

Step-by-Step Guide to Clean Your Portfolio

Limit Small-and Mid-Cap ExposureHigh equity exposure can be risky for short-term goals, including major life events. Shifting towards debt investments can protect funds needed in the near future.
Consider Time HorizonAdding new funds based on recent top performance often leads to overcrowded portfolios. Instead, consistently evaluate holdings based on long-term growth rather than frequently shifting for recent high performers.
Review Portfolio RegularlyPeriodically evaluate stock and fund performance. Too many mutual funds may dilute returns; instead, select a balanced, well-performing mix.
Avoid Chasing Short-Term WinnersToo many funds can dilute returns, often leading to a less effective portfolio. Excess funds may unintentionally disrupt your original risk profile.
Avoid Overloading with Funds:Over the past year, equities grew by 35%, gold by 27%, and fixed-income options provided 7-8% returns, altering the original portfolio balance. 

If your target was 60% equities, 30% fixed income, and 10% gold, the equity increase may require adjustments to maintain this balance.

For example, the equity portion may now be around 65%, while fixed income has dropped to 25%, increasing the portfolio’s overall risk exposure beyond your original comfort zone.
Focus on Genuine Diversification:Simply adding more schemes doesn’t guarantee risk reduction. New funds may duplicate strategies already present in the portfolio, adding complexity without additional benefit.
Portfolio RebalancingToo many funds can dilute returns, leading to a less effective portfolio. Excess funds may unintentionally disrupt your original risk profile.
Source: Economic Times

Diwali Cleaning – How to declutter your portfolio

Assess Financial Goals and Risk Tolerance

Before investing, it’s essential to clarify your current financial goals and risk tolerance. Life changes may shift your priorities over time, and your portfolio should reflect that.

  • Set Clear Goals: Define short-term and long-term goals, such as saving for retirement, buying a home, or creating an emergency fund.
  • Understand Your Risk Appetite: Reflect on your comfort with risk. If your priorities or risk tolerance have changed, it may be time to adjust your portfolio accordingly.

By revisiting your goals and risk tolerance, you can identify assets that no longer align with your overall investment strategy.

Identifying Underperforming Assets

The next step in your portfolio cleanup is to identify investments that are not yielding the expected returns or carrying high risk levels. Here’s how to evaluate them effectively:

  • Use Benchmarks: Compare each investment’s performance against relevant benchmarks (e.g., comparing a stock’s returns to the market index or peer stocks).
  • Analyze Performance Over Time: Look at assets that consistently underperform over extended periods. An occasional dip might be temporary, but long-term poor performance may indicate an issue.
  • Evaluate Fundamentals: Examine the company’s revenue growth, profitability, debt levels, and industry trends. Weak fundamentals in stocks or funds are a red flag.
  • Check for Liquidity: Some assets may be difficult to sell without taking a loss. Investments in illiquid assets can tie up funds, so reassessing liquidity is key.

Plan an Exit Strategy for Risky Investments

If you find assets that aren’t meeting expectations, consider planning an exit strategy to phase them out. Here’s how:

  • Gradual Selling: Consider a phased exit to minimize losses for assets that have lost value.
  • Use Market Conditions: Wait for favorable market conditions to sell off assets that have experienced temporary dips.
  • Rebalance Carefully: Avoid selling assets in a rush, which may incur unnecessary taxes or losses. A planned approach helps maintain portfolio balance.

Diversify to Reduce Risk

Portfolio cleanup also offers an opportunity to rebalance and diversify. Diversification is essential to mitigate risk, so consider spreading your investments across sectors, asset classes, and regions.

  • Rebalance Asset Allocation: Adjust the proportions between stocks, bonds, and other asset classes to match your risk profile.
  • Sector Diversification: Invest in various sectors to reduce risk exposure in a single industry.
  • Global Diversification: Include international investments to balance market risks tied to one country’s economy.

A diversified portfolio can help safeguard against the downturn of a specific asset or sector, offering a cushion during market volatility.

Prioritize Quality Over Quantity

A cluttered portfolio with numerous low-quality assets can dilute your gains. Focus on holding high-quality investments aligned with your long-term goals.

  • Identify Core Investments: Retain assets with strong growth potential, stability, and consistent returns.
  • Reduce Overlapping Investments: If multiple funds or stocks serve the same purpose, consider consolidating to avoid redundancy.
  • Quality over Quantity: Fewer, high-performing investments typically outperform a portfolio with numerous low-quality assets.

Choosing quality investments over quantity reduces complexity and focuses on assets contributing to your financial objectives.

Tax Implications & Timing for your Diwali Clean-up

Selling investments can have tax implications. Understanding these will help you make tax-efficient decisions during your portfolio clean-up.

  • Harvesting Losses: Selling losing investments can offset capital gains tax from profitable investments, a strategy known as tax-loss harvesting.
  • Avoid Short-Term Capital Gains: Consider holding investments for over a year to take advantage of lower long-term capital gains tax rates.
  • Time Sales with Care: Plan asset sales for the end of the tax year or consult a tax professional to maximize tax efficiency.

Taking tax implications into account can significantly impact your net returns, so plan exits accordingly to keep more of your gains.

Seek Professional Guidance if Needed

If evaluating and restructuring your portfolio feels overwhelming, consider consulting a financial advisor. An expert can help you:

  • Identify High-Risk Assets: Advisors can assess your portfolio for high-risk or poorly performing investments.
  • Optimize for Tax Efficiency: Financial advisors are well-versed in tax strategies that can maximize your returns.
  • Adjust to Market Trends: They can provide insight into sectors worth investing in based on current and future market trends.

Professional guidance can clarify the process, ensuring that your clean-up is thorough and aligns with best practices for wealth management.

Review Regularly, Not Just During Diwali

While this festival is a great annual reminder for the Diwali cleaning of your portfolio, make it a habit to review your investments regularly. Market conditions and personal goals change; your portfolio should reflect these shifts.

  • Quarterly or Semi-Annual Reviews: Schedule regular portfolio check-ins to assess performance.
  • Track Market Trends: Stay informed about economic shifts and industry developments that could impact your investments.
  • Rebalance Periodically: Adjust allocations to align with your goals and risk tolerance.

Routine reviews help you stay on top of potential issues, ensuring your portfolio remains optimized for long-term growth.

Examples

Let’s suppose an investor began investing in an Equity-Linked Savings Scheme (ELSS) seven years ago for tax benefits but shifted to other funds when returns dipped. He now holds SIPs in top-performing mutual funds, index ETFs, and new fund offerings, ending up with over 30 funds in his portfolio. He assumes this setup provides broad diversification.

What he can do: Investing in too many mutual funds can dilute returns and disrupt the portfolio’s intended risk profile. Adding more funds might not add meaningful diversification; instead, it often results in overlap, where multiple funds follow similar strategies, leading to redundant holdings. True diversification comes from selecting funds with distinct investment approaches rather than simply increasing the number of funds.

Here’s another example for you. An investor holds 70% of her ₹1.2 crore portfolio in equities, split across large, mid, and small-cap funds, along with direct stock investments. With her retirement in two years and her daughter’s wedding planned for next year, her focus should now be on security and liquidity.

What she can do: She should consider reallocating from equities to safer assets like fixed deposits or arbitrage funds for near-term needs and gradually shift to debt funds for medium-term stability.

Embrace Diwali’s Spirit to Create a Stronger Financial Future

Identifying and removing risky, underperforming assets clears the way for growth and stability. Whether preparing for short-term goals or planning a secure retirement, a thorough portfolio review can boost your financial health. This Diwali, embrace the spirit of renewal and welcome a brighter, more secure financial future!

FAQs

  1. What are the signs that I need to clean up my investment portfolio?

    There are several indicators that your portfolio may need a review and adjustment. Consistent underperformance against benchmarks is a key sign that some investments may not deliver as expected. High volatility can mean your portfolio is exposed to excess risk, which may not align with your risk tolerance. Changes in financial goals, like retirement or significant purchases, often call for rebalancing to match these new priorities better. Additionally, tax inefficiency in some investments can reduce returns, so it’s beneficial to consider tax-smart adjustments.

  2. How do I identify underperforming assets in my portfolio?

    To identify underperforming assets, start by comparing each investment’s returns against relevant benchmarks to gauge its performance. Reviewing historical performance also helps reveal trends or patterns indicating consistent underperformance. Consider the future growth potential of your investments, factoring in industry developments and broader economic conditions. Consulting with a financial advisor can provide valuable insights, helping to assess each asset’s alignment with your goals and identify which may need reallocation.

  3. What are some tips for rebalancing my investment portfolio?

    Rebalancing your portfolio involves aligning your asset allocation to match your desired risk level. Begin by setting target allocations for each asset class (like stocks, bonds, and cash) and then compare these targets with your current allocations to spot any imbalances. Adjust gradually to reduce market impact and be mindful of potential tax consequences. For personalized strategies, seeking guidance from a financial advisor can provide tailored insights to support your rebalancing efforts effectively.

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I’m Archana R. Chettiar, an experienced content creator with
an affinity for writing on personal finance and other financial content. I
love to write on equity investing, retirement, managing money, and more.

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