Investment Benchmarks: Why “The Market” Isn’t the Only Measure of Success

One thing that has been on my mind for a few years is the tendency for people to compare their experiences before knowing how they feel about it. Everything is relative. How your lunch compares to yesterday’s has at least as much impact on your satisfaction as the actual absolute tastiness. Your happiness in your relationship with your kids may be influenced by your friend’s relationship with their kids, positively or negatively. And how you feel about the investment returns of your portfolio may be influenced by your brother-in-law’s bragging about his “outstanding” investment gains.

This is not inherently bad, as there are benefits from comparing experiences and expectations with others. The challenge is to focus on the standards that matter and ignore the rest that aren’t relevant to you.

As we apply this to your financial plan and investment portfolio, several potential benchmarks come to mind. However, it is imperative that you understand what each benchmark is telling you and, more importantly, what it is not. Let’s dive into a few.

“The Market”

A common question when talking about investments is “how did the market do?” Seems reasonable on the surface, you want to know how the market is performing. The problem comes with how you define “the Market”. Is it the Dow Jones Industrial Average? S&P 500? NASDAQ stocks? Total World Index? What about bonds?

The point is that there are many different ways to measure the market and there is no consensus. For what it’s worth, if you ask me how the market is doing, I’ll probably tell you about the S&P 500 (largest 500 stocks in the US) and the Vanguard Total World Index fund (which owns almost 10,000 stocks around the world). Both of these are good ways to know what buying and holding these index funds, but they have limited value to investors.

“Your Portfolio”

A more applicable benchmark than just the overall market is for your portfolio. This is where we compare your actual portfolio returns to what a similar asset allocation would have performed with just a “buy-and-hold” index approach with similar risk tolerance. The usefulness of this benchmark is to judge the marginal decisions that have been made to your portfolio away from just holding the market.

We use a combination of the Vanguard Total World Index Fund and the Vanguard Total Bond Market to set the benchmark. For instance, a client may have a risk tolerance similar to a 50% stock / 50% bond portfolio. However, as we are managing the portfolio, we are deviating from the index, maybe by allocating a little more to International stocks than the index or adding Real Assets such as Gold to the portfolio. Comparing the 50/50 blended returns to your actual portfolio returns will highlight the difference between what you could have had and what you actually earned.

“The Game”

While “The Market” and “Your Portfolio" only have so much value to you, I believe “Your Game” is where everything comes together. This benchmark is unique to each individual. It is a combination of desires, hopes and dreams along with your financial plan.

For some, their goal is to have enough to retire comfortably and reasonably prepare for unexpected events in retirement. Benchmarks for these situations will include things like savings rates, portfolio targets, adjusting risk tolerance, insurance coverage and more qualitative benchmarks (such as “sleep at night”, etc.).

For others, their goals may be focused on maximizing experiences today while doing “just enough” to plan for tomorrow. So their benchmarks may be related to countries traveled to, “passive-income streams” to live off of, and maybe even how low can their daily cost of living go to allow for more big experiences.

Lastly, others may be focused on building up their wealth to the highest degree they can, with the intent to gift generational wealth to their families and leave a charitable legacy. In this case, income, savings, and outsized portfolio returns will likely be the key benchmarks, along with estate planning and multi-generational financial education.

As you can see in these examples, there is a mix of quantitative and qualitative “benchmarks”, and everyone is different. For many of our ongoing clients, the purpose of our Annual Review process is to memorialize the current status and lay out the benchmarks that we believe are worth tracking, based upon our clients’ unique wants and needs. No two clients have the same benchmarks.

It is in human nature to want to compare. The English Philosopher John Stuart Mill sums up our human nature succinctly: “Men do not desire to be rich, but richer than other men.” As we attempt to combat social comparison, one important tool is to focus on the correct reference points. Knowing your game and your benchmark is one key to keeping your finances in perspective.