A testable piece…
Assuming your strategic asset allocation provides you with your optimal, risk-adjusted expected returns subject to your constraints, then rebalancing ensures that your actual allocation will achieve these returns and not result in an overall portfolio with an undesired risk-return profile or that violates your constraints.
It also enforces a “buy low-sell high” methodology since when a given allocation gets too high due to rising prices, you lower the allocation by selling off the gainers (and vice versa for the losers in a declining allocation).
Thoughts?
rebalancing to target weights would
[1]Reduce the present value of expected losses from not tracking the optimum
[2]control for portfolio risk (assets with high volatility->high return->large portion of portfolio->portfolio variance drift)
[3]control risk exposure drift (rebalancing allows us to maintain desired exposure to market risk for example)
[4]NOT rebalancing may result in ownership of overvalued securities->possible future losses.
rebalancing portfolio weights to be within the allowed range implies:
[1] Less close alignment to target weights than rebalancing to target weights.
[2] Lower T-Costs.
[3] More leeway for active managment.
[4] Lower costs associated with managing the weights of illiquid assets.