A Sensible Way to Evaluate Your Investment Performance

Comparing one’s performance to one or more investment indexes, helps an investor put their results in the context of the market environment that surrounded those results. At the same time, there are so many possible benchmark indexes available, a simple exercise can become a confusing one, leaving one feeling under-informed or misinformed.

The S&P 500 Total Return Index (i.e. includes dividends), while containing some flaws (it is heavily weighted toward the largest companies, it only covers part of the market), is one of the most recognizable market indicators around. It follows that investors likely want to know how they are doing against the S&P. But this is not nearly enough!

Most investors I have encountered in my 27 years in the investment business don’t want to take on the level of volatility of the broad stock market. For instance, the S&P will often decline more than investors are comfortable with for their own portfolio. That’s why I think a more meaningful comparison to one’s portfolio is to view it versus what would have happened if they had put some portion of their money in the S&P 500, and earned zero return on the rest. For instance, a “50%” portfolio would experience half of the ups and half of the downs of the S&P, and thus produce a more conservative range of outcomes than the full S&P.

I recommend using at least two benchmarks for each portfolio or portfolio strategy:

  • One based on the portion of the S&P 500’s volatility that the client is prepared to endure over time. At Sungarden, we created a proprietary “Volatility Assessment Survey” which helps target an investor’s likely comfort level, expressed as a portion of the market’s overall volatility (this is similar to the concept of “Beta” familiar to financial advisors).
  • The S&P 500 Total Return Index – as this has become, over time, a very common and recognizable indicator of performance of “the market”

As a further measure of the effectiveness of a specific strategy, I’d also recommend calculating the portfolio’s volatility and participation in up market periods separately from down markets over longer time periods. This all results in an evaluation of the portfolio’s results in a way that a client can relate to. Finally, it emphasizes and educates the investor about the volatility endured to produce the results, so returns on investment are not viewed in a vacuum. Ideally, if a money manager can participate in a higher portion of the gains in good times and limit major losses in down times, they are likely to keep investors happy and confident.

© Sungarden Investment Research


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