‘Right’ benchmark for the correct picture

Is your investment a performer or an under-performer? Compare its performance with its benchmark to know the answer…

Taking investment decisions is not easy. It involves a lot of comparison, analysis and interpretation. When comparing the past performance of two investment products, it is very important to compare apples with apples and oranges with oranges. For instance, it is incorrect to compare the performance of a balanced mutual fund with an equity diversified fund or a mid cap fund with a large cap fund.

A valid comparison is one between products with similar features and risk profiles. Another simpler way of comparing investment avenues is simply comparing products with their respective benchmarks.

What is a benchmark?

As per Investopedia, a benchmark is ‘a standard against which the performance of a security, mutual fund or investment manager can be measured’. Thus a benchmark can be an index, a combination of an index or even a price of a commodity in the spot (i.e. cash) market. For instance, indices such as the BSE Sensex, BSE Midcap and CRISIL Balanced Fund Index or the spot price of gold can be used as effective benchmarks for an index fund, midcap fund, balanced fund and gold ETF, respectively.

How does benchmarking help?

Many a times, considering the standalone performance of an investment avenue may be misleading. For instance, an investment which may have given a 1-year return of 20 percent may seem to be a performer. However, that would be true only if its benchmark has delivered a lower return than that. But, if the return from the benchmark is higher, then, it can be safely concluded that the performance is not at par.

 

Remember…

Generally,  every  investment plans  has  its  own  pre-defined  benchmark.Investors also can create their own benchmarks for comparison as long as they have similar features and risk profiles as the investment option. There might be occasions where investment firms use inappropriate benchmarks for comparison just to highlight their performance. In such a situation, investors can compare them with the correct benchmark or with the category average. This will help investors to get a clear picture about the investment’s relative performance with the benchmark.