#rebalancing

There is an appealing simplicity to saying that 85% of a portfolio will be invested for the long term while 15% will be reserved for individual ideas.

The difficulty begins approximately five minutes later.

What happens when one of the individual stocks doubles? What happens when several of them fall? Does the investor restore the original percentages in both cases? Can new money refill the speculative account? When does a successful position stop being an experiment? And what prevents a temporary 15% allowance from slowly becoming half the portfolio?

These questions matter because an allocation is not yet a system. An allocation describes how a portfolio looks on one day. A system describes what happens next.

In A Budget for Speculation: Can Stock Picking and Passive Investing Coexist?, I argued that some investors may be better served by giving speculation a limited budget than by pretending they will never feel tempted to speculate. Most of the portfolio performs the sober work of long-term wealth building. A smaller portion provides room for individual ideas, intellectual curiosity and the occasional attempt to be right in a more interesting way.

The behavioral premise was simple: the appetite gets a plate, not the pantry.

This companion article is about building the plate.

First, distinguish the general strategy from the ratchet

Core–satellite investing is a broad family of portfolio designs. The core generally consists of diversified, long-term holdings. The satellites are smaller positions used to pursue active ideas, specialized exposures or other objectives not fully represented in the core.