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As 2025 ended, some investors were still riding the momentum of strong gains from 2023 and 2024. But many are now starting to feel the undercurrent of market jitters, such as heightened inflation, signs of a cooling job market and geopolitical tensions.
The question on savvy investors’ minds is: Should I reduce my risk now and, if so, by how much? The answer, as you know if you’ve read any of my other content, is it depends on your individual situation and objectives.
Even with a more optimistic view of the economy’s resilience, it is important to balance that outlook with realistic planning for headwinds.
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Why look at derisking now?
We’re still generally in growth mode, and the Federal Reserve’s gradual interest rate cuts and sustained consumer spending offer upside potential.
At the same time, inflation remains above target in key sectors and some hiring trends have softened, signaling risk of a possible deceleration.
As a result, a selective, measured derisking strategy can lock in portfolio gains without sacrificing future upside.
The three pillars of a derisking framework are:
- Performance audit
- Risk-tolerance alignment
- Time-horizon check
These pillars provide a structured way to decide whether, and by how much, to shift toward conservative assets.
1. Performance audit: Data over emotion
A thorough review of your or your client’s actual returns will remove guesswork. Start by calculating the internal rate of return (IRR) for a custom period. This accounts for all cash inflow and outflow, giving a clear percentage that reflects true portfolio performance.
- If your portfolio shows a positive double-digit IRR despite shaky market performance, it’s a cue that your long-term strategy remains intact.
- If you see underperformance, dig into timing: Was your worst drawdown tied to one large deposit during a market peak? Or did certain sectors lag consistently?
This audit clarifies whether recent volatility is a blip your portfolio can weather, or a symptom of deeper issues requiring adjustment.
2. Risk-tolerance alignment: The feelings check
Markets don’t just test portfolios, instead they test nerves. Persistent anxiety over short-term dips can erode both mental health and investment discipline. An honest conversation about stress levels ensures your portfolio or the portfolios under your management match your or your client’s emotional comfort zone.
If a portfolio’s volatility is causing sleepless nights, it’s a sign to dial back risk. Lowering equity exposure by 5%or even 10% can reduce drawdowns without radically altering growth potential.
3. Time-horizon check: Goals in focus
Investment horizons also naturally shrink as milestones approach. A shorter horizon generally warrants a more conservative tilt.
Auditing major purchases or retirements within the next five to seven years as well as any changes to cash-flow needs (such as new mortgage payments, college tuition or caregiving expenses) will determine how goals must be amended.
If timelines or objectives have compressed, a rebalancing that shifts 10% to 20% of a portfolio into fixed income or cash equivalents can preserve capital gains.
Tax and account considerations
When rebalancing, always factor in the tax treatment of each account.
Tax-deferred accounts (e.g., traditional IRA). Internal exchanges don’t trigger taxable events. You can rotate out of highfliers into bonds or cash funds without immediate tax consequences.
Taxable brokerage accounts. Every sale crystallizes gains or losses within an account. Selling winners may generate ordinary or long-term capital gains, while selling losers can offset taxable gains elsewhere.
An adviser or tax professional can help structure trades to minimize tax drag, especially if you’ve held positions for over a year and qualify for favorable long-term rates.
Incremental rebalancing: Locking in gains wisely
Rather than a wholesale shift, consider phased moves such as:
- Move 5% of over-appreciated positions into conservative assets each quarter
- Allocate new contributions to cash or short-duration bonds when markets are at elevated valuations
- When equities dip, redeploy a portion of emergency cash into existing core positions to maintain a target assets mix.
A phased approach smooths the impact of individual market timing and allows you to capture upside if the rally resumes.
Common pitfalls to avoid
Misreading 401(k) balances. Ongoing payroll contributions can mask true returns. Compare rate of return, not ending balance, for the most accurate assessment of performance.
Following anecdotal advice. Well-meaning relatives or friends often lack full context — such as allocation, fees and risk parameters — and you may end up copying strategies that aren’t right for you.
Building resilience with diversification and cash
A truly derisked portfolio isn’t just about cutting equities. It’s about broadening your financial toolkit.
Diversification. Uncorrelated holdings, such as domestic and international equities, corporate and sovereign bonds, and real assets, offer greater liquidity as you can draw from segments that are up while others lag.
Emergency fund. A savings buffer lets you meet near-term obligations without tapping into investments. When markets dip, take the opportunity to deploy some of that cash at discounted prices.
Looking ahead: Balancing optimism and prudence
Inflation has eased from its recent peak but remains above target. Job growth is solid but signs show a cooling labor market.
However, consumer balance sheets and corporate earnings remain healthy, and central banks are signaling rate cuts if data improves. So, the economy and consumers are standing at a bit of a crossroad.
This environment calls for a nimble derisking playbook. By blending a forward-looking growth stance with defensive guardrails, you position yourself to weather turbulence and also capitalize expansion.
Derisking is about fine-tuning sails to capture prevailing winds. Auditing returns, assessing risk tolerance and confirming your financial horizon, then combining tax-efficient rebalances and disciplined diversification, creates a resilient framework.
With an optimistic yet realistic approach, you can navigate 2026’s challenges and opportunities with confidence.
