Investment performance needs to be put into context to be truly meaningful. For example, assume you earned a 10% return over some period. Is that good? It seems so at first, but what if all your neighbors got returns of 11%? Or, what if the overall stock market was up 15%? The same return can look different under different assumptions.
Enter benchmarks. A benchmark is really just an index or a mix of indices that show the performance of various segments of the capital markets. The S&P 500 is the most common index, as it shows the returns of a broad swath (500 stocks) of the U.S. stock market. For international stocks, a different index is required, which is also true for small-cap U.S. stocks, bonds, real estate, etc.
We have historically compared our stock performance against a composite of indices for large-cap, mid-cap, small-cap, and international stocks, as well as real estate investment trusts. We have chosen indices that are hard to beat. For example, we use the S&P 600 as our small-cap benchmark even though it is far easier to outperform the industry-standard Russell 2000. To us it just seemed more fair. However, that also has meant that our returns were not always ahead of our benchmark.
Investment advisors, and most of their clients, like to always outperform the market. However, “the market” can mean different things with different advisors and different investors. That leaves an opening for many advisors to use benchmark indices that are easier to outperform. It can also result in frequent changes to those benchmarks, to always portray returns in the best light.
We have never believed in these tactics and have been consistent in our approach since the inception of Armbruster Capital. However, we are now making a change to how we benchmark the stock component of our portfolios.
Typically benchmark changes mean picking indices that make your historic returns look better. We’re doing the opposite. Looking back through time, the new benchmark we’ll be using outperformed our existing benchmark, so we are not making this change to “whitewash” past performance. Rather, we truly feel it is a better representation of a core portfolio that would be a default option for investors if we were not managing their portfolios. Thus, any returns above or below the benchmark in the future will be to our credit or blame (we expect periods of both but hopefully outperformance over longer periods).
We’re making this change because we made some changes to our investment approach over the past few months (see our article in the last newsletter about factor-based investing), and we feel a new benchmark would better represent the new approach.
The new benchmark will be simpler, consisting only of a total U.S. stock market index (the S&P 1500 index) and a total international stock market index (MSCI ACWI ex U.S.). The benchmark will be weighted 70% U.S. and 30% international, reflecting the targets we have in most of our managed portfolios.
We will start using this new benchmark on most of our reporting starting next quarter. The benchmarks we have been using for the bond and alternative investment components of our portfolio will remain the same. Feel free to give us a call if you have questions or are confused by the new reports.
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