A portfolio manager manages a growth-oriented portfolio for a younger client with a 75% equity / 25% fixed income target allocation. The IPS specifies that rebalancing should occur when any asset class deviates by more than ±5 percentage points from its target weight. At the end of Q3, the equity allocation has risen to 82%, and fixed income has fallen to 18%. Assuming no new cash flows, what action should the portfolio manager take?

Question: A portfolio manager manages a growth-oriented portfolio for a younger client with a 75% equity / 25% fixed income target allocation. The IPS specifies that rebalancing should occur when any asset class deviates by more than ±5 percentage points from its target weight. At the end of Q3, the equity allocation has risen to 82%, and fixed income has fallen to 18%. Assuming no new cash flows, what action should the portfolio manager take?

Answer options: ✅ Sell 7% of equities and buy 7% of fixed income to bring the portfolio back to its target weights of 75/25.

• Refrain from rebalancing, as the deviation is within a reasonable tolerance for a growth-oriented portfolio.
• Initiate calendar rebalancing at the next scheduled annual review, regardless of current drift.
• Sell 5% of equities and buy 5% of fixed income, targeting an 80/20 allocation to maintain some upside potential.

Correct answer: Sell 7% of equities and buy 7% of fixed income to bring the portfolio back to its target weights of 75/25.

Explanation: This scenario describes Threshold Rebalancing, where action is triggered when an asset class deviates beyond a pre-defined tolerance band. Since equities are at 82% (7% above 75%) and fixed income is at 18% (7% below 25%), a rebalance is required to bring them back to the target 75%/25% split.