4 Steps to Use Benchmarks to Measure Portfolio Investment Performance



As management guru Peter Drucker famously said, “If you can't measure it, you can't manage it.”


I have made the best investment choices ever, but how on earth can I prove it? How can I show the true value of my investments?


Benchmarking.


Benchmarks are unmanaged securities, maintained by a financial institution. These unmanaged securities generally represent a particular market segment and can additionally include mutual fund categories and ETF’s. Benchmarking allows a portfolio manager or firm to measure how the portfolio is progressing towards a stated goal or objective. Matching investments to an appropriate benchmark are key to this measurement. A single index can be used, the S&P 500 is obviously an appropriate choice for many portfolios. However, there is no single index that can be used to get a feel for how a portfolio is performing if it consists of multiple asset classes, like Domestic Equity, International Equity, Emerging Markets, etc. Benchmarking can be used as a stand-in or proxy for asset classes, aligning with the asset allocation of the portfolio.


Creating a blended or balanced benchmark consisting of indices that measure each asset class within a portfolio is an invaluable tool for measuring a portfolio’s performance. There are many indices to consider:

  • Large-Cap US stocks S&P 500

  • Small-Cap US stocks S&P SmallCap 600 or MSCI USA Small Cap

  • International stocks – developed countries S&P Developed Ex-U.S. BMI or MSCI World

  • International stocks – emerging countries MSCI Emerging Markets

  • US bonds Bloomberg Barclays US Aggregate Bond Index

  • International bonds Bloomberg Barclays Global Aggregate Bond Index

  • Real Estate S&P United States REIT or S&P Global REIT

  • Crypto Currency Bitcoin


Despite the myriad of index choices, creating a benchmark to measure the investment performance of a portfolio does not have to be overwhelming.


  1. The first step is to choose a portfolio to be measured against, perhaps a single investment account or a composite of investment styles and objectives.

  2. The second step is to consider the asset allocation of the account or accounts. The investment manager could have a set objective to consider, investing in large cap equities or index funds with an additional allocation of foreign investments. The accounts could hold only mutual funds or could contain unlimited fixed income and equity securities, with a cryptocurrency allocation: the possibilities are endless.

  3. The third step is to choose an appropriate benchmark, whether it be via a blend of the asset types or a single index that represents the investment choices or objectives. Creating a static blend that adheres to an accounts’ investment objectives or a blend that automatically reflects the changing asset allocation of an account can also allow your portfolio to be measured accurately depending on investment choices. The portfolio manager may also need to choose different benchmarks that reflect different time periods, depending on how long the investments in a particular class reside. The benchmarks reflecting a long-term investment strategy will differ from a benchmark for a three to five-year time horizon.

  4. The final step is to calculate the portfolio performance and compare it to the calculated benchmark performance. This allows the portfolio manager or investor to compare the portfolio performance versus the benchmark performance and verify that the returns are as expected, and the investments adhered to their strategy.


Benchmarks are a useful tool that allow financial investment professionals to measure their investment choices. By making accurate benchmark choices to reflect asset allocations, timing and investment objectives, an investment professional can effectively compare portfolio and benchmark returns, giving them the best chance to tell their investment story and succeed at their goals.


GreenHill works closely with investment professionals, offering both expertise and guidance in the creation and use of benchmarks. GreenHill strives to help enhance their clients’ experience by strengthening strategies and oversight towards achieving goals, like meeting stated investment policy objectives and effectively monitoring and managing portfolio risk.


 

GreenHill Investment Reporting® has access to over 350 indices that are available to create blended benchmarks and investment objectives. Blended indices can be linked over various time periods to give an accurate benchmark of the portfolio’s allocation changes. Contact us to learn more about benchmarks and how we can help put them to work for you and your clients. We make performance personal!