How to benchmark your portfolio
If you’re evaluating your portfolio, make sure you’re using a benchmark that reflects what you’re actually trying to see.
“How am I doing?”
It's one of the most basic questions an investor can ask, but answering it isn't always straightforward.
For starters, common yardsticks of market performance, such as the ASX/200 or the Bloomberg Global Aggregate Bond Index, assume that an investor is fully invested in that asset class—all stocks or all bonds. Few investors are. Comparing your performance with that of an ASX/200 index fund, or even a total stock market index fund, is a poor choice unless your portfolio is 100% Australian equities. Instead, it’s better to compare your results with a benchmark that roughly matches your own portfolio’s asset allocation; I’ll talk about where to go for that type of intelligence below.
Yet even as such a bespoke benchmark is an advance over a single-asset-class benchmark like the ASX/200, it serves the single goal of helping you assess your security selection. It makes no judgment about your asset-allocation choices. For example, you may have managed to shred the Bloomberg Global Aggregate Bond Index’s performance with your all-bond retirement portfolio. But if you’re only in your 30s, you may still not meet your goals because you’ve stuck with a portfolio that’s too conservative given your life stage. What you need more than anything is a check on the reasonableness of having so much in bonds in the first place.
No matter what type of “How am I doing?” question you’re attempting to answer (and you’ll probably have more than one at various points in time), here are some benchmarks you can use to help you make a well-considered assessment.
If you want to see whether your security choices have added or subtracted value:
As noted above, one of the best ways to keep tabs on whether you’re helping or hurting returns with your stock, managed fund, or exchange-traded fund selections is to create a custom benchmark of inexpensive index funds or ETFs that mirrors your portfolio’s asset allocation (or your target allocation). Such a benchmark is not just a worthwhile check of your security-selection acumen but also a lens into whether you could be running a portfolio that’s simpler and cheaper than what you have.
If you are a Morningstar Investor subscriber or trialist^, use the X-Ray tab to determine your portfolio’s current asset allocation; you can then use that allocation to inform the weightings for your custom benchmark. For example, let’s say X-Ray shows that you have 42% in Australian stocks, 22% in international stocks, 23% in bonds, and 13% in cash. Assuming you have a $1 million portfolio, your custom benchmark could consist of $420,000 in Vanguard Australian Shares Index (ASX: VAS), $220,000 in iShares Core MSCI World ex AUS (ASX: IWLD), $230,000 in Vanguard Global Aggregate Bond Index (Hedged) ETF (ASX: VBND) and $130,000 in cash. Enter those holdings and save them as a portfolio.
The other way to do this is to compare your holdings in our Invesmtent Policy Statement (IPS) feature. It compares your current allocation to Morningstar's model portfolio allocations if you are not after some guidance, instead of a custom benchmark.
If, over time, it turns out that your actual portfolio is consistently lagging your custom benchmark, you might consider calling it a day and going all-in with total market index funds.
If you want to gauge the reasonableness of your portfolio’s asset allocation:
The preceding benchmarking jobs all assume that you’re working with some type of asset-allocation target and that you’re comfortable with it. Based on my interactions with investors, that’s not always the case; many investors view asset allocation as black-boxy, and they don’t know where to start. For investors who are saving for retirement, the Morningstar Lifetime Allocation Index weightings can be a guide. My various model portfolios for retirement savers and accumulators can also be useful for benchmarking purposes. While most of the portfolios are geared toward retirement, I’ve developed portfolios for short- and intermediate-term goals, too.
If you want to see if you’re on track to reach your goals:
Ultimately, this is the mother of all benchmarking questions, and it’s one that we should all ask ourselves at least once a year, ideally as part of an annual portfolio review. I like Vanguard's Retirement calculator for a quickie view of whether a savings program needs to be stepped up. The MoneySmart Retirement Planner calculator can give you an understanding of how long your funds will last before accessing the age pension, if ever. Morningstar Investor subscribers have access to our Portfolio Projection tool. Because all of these calculators employ different methodologies—and because the viability of your retirement savings/spending plan is such a crucial question—it is worthwhile to sample a few of them for a range of opinions.
A version of this article previously appeared on Feb. 25, 2019.
This article originally appeared on Morningstar's US website and has been edited and republished for an Australian audience.
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