It's easy to gravitate toward better-performing sectors, so committing to an annual rebalancing process means taking money out of stocks that are performing well and putting the proceeds into stocks that are doing poorly. I sell high and buy low (as opposed to buying high in the hopes of selling higher).

Rebalancing, however, usually generates capital gains. Because I rebalance in January and February, I have the rest of the year to look for offsetting capital losses. For example, not every stock that I buy in January will be showing a gain by the fourth quarter. A short-term loss taken in the fourth quarter can be set against a long-term gain from the first quarter.

Two years ago I wrote a column on how to compute your annual return and estimate the risks in your portfolio using an Excel spreadsheet and a variety of data sources. Doing a good job would take about six hours for a 40-stock portfolio. Thankfully, Web tools can now compress this job down to about an hour.

The most accessible tool for individual investors is the Morningstar Portfolio X-Ray tool, available in a limited version for free and in an extended version as part of the Premium Membership package for $11.95/month after a 30-day free trial (no, I'm not getting a referral fee from Morningstar).

Analyze the following hypothetical portfolio using the free tool:

Fill in the above values and click "show instant X-Ray." (Note: the premium version lets you enter share quantities, cost basis, etc., and lets you save the portfolio for future review.) Taking into account both stocks and mutual funds, Morningstar's Overview report gives you your asset allocation (percentage of stocks, bonds and cash); breakdown of stocks (small-, mid- and large-cap, growth vs. value, sector allocations vs. the S&P 500); stock types (cyclical, growth, aggressive growth, etc.); average price-to-earnings, price-to-book and yield, and values relative to the S&P 500; and the top 10 holdings in your portfolio.

If you click on the "diagnostics" tab, Morningstar provides an analysis of the risk factors in your portfolio.

The premium version of Morningstar's X-Ray gives you additional detail. For example, the Stock Intersection report shows overlaps between your stocks and mutual funds, and computes your overall exposure. In the hypothetical portfolio, Nokia (NOK - commentary - Cramer's Take) is the largest holding of the Janus Mercury fund, while Citigroup (C - commentary - Cramer's Take) and AOL Time Warner (AOL - commentary - Cramer's Take) appear in both Janus Mercury (the aggressive growth fund) and Westwood Equity (the value fund). Even if you invest only in mutual funds, you may find that you're less diversified than you thought, because of stock overlap among the funds.

Another convenient report is a quick estimate of your portfolio performance over the last quarter, year and three years (assuming that your positions remained constant) in absolute terms and relative to the S&P 500. Morningstar will compute the actual performance if you've entered all your buys, sells and cash activity through the performance period.

I suggest the following action plan: