Question

The original asset allocation of an investment portfolio was 10% cash, 40% bonds, and 50% stocks. A recent bear market, however, has altered this allocation to 10% cash, 50% bonds, and 40% stocks. The client's investment objectives and risk tolerance have not changed. The adviser recommends that the portfolio be systematically rebalanced by selling:

A) Stocks and buying bonds with the proceeds

B) Bonds and buying stocks with the proceeds

C) Stocks and bonds and placing the proceeds in cash until market conditions stabilize

D) Stocks and bonds and allocating 10% of the portfolio to alternative investments

Answer 1

The portfolio should be rebalanced to match the original asset allocation. To do this, the proportion of bonds needs to be reduced, and the proportion of equities needs to be increased. This is because in the current allocation, the proportion of bonds is higher than the original allocation, and the proportion of stocks is lower than the original allocation

The correct option is B - sell bonds and buying stocks with the proceeds

Option A is incorrect as it has the opposite effect of the required rebalancing

Option C and D are incorrect because the client's investment objectives and risk tolerance have not changed. Therefore the asset allocation should not be changed from the original allocation