It bewilders me why people have a fascination with matters of little consequence, simply because they are easy to measure.
What is it with this obsession with comparing investments to benchmarks? It’s misplaced at best, not to mention potentially playing a dangerous game.
The first point, which is no small matter, is that an investor cannot buy a benchmark index in the first place. Every product designed to replicate a benchmark will have some degree of lag due to tracking error and frictional costs.
Even further- what is the right benchmark to use? Do you compare to the Canadian stock market? Or maybe just a subset? Do you include global investments? If so, what do you do about currency fluctuations? How do you account for fixed income allocations? Just what is it that makes one blend of hypothetical measures any more or less valid than another blend? There is significant subjectivity involved.
But most important of all, no rational person has the goal of beating the benchmark. A true objective is more along the lines of being able to retire with the desired standard of living and never having to worry about running out of money. Or having the resources to make sure that your children have the opportunity for post-secondary education. Or being able to leave a multi-generational legacy. Those are real goals.
Here’s what I mean: let’s say that you achieved all your objectives without taking on unnecessary risk, but you failed to beat the benchmark. Did you lose? Of course not.
Alternatively, let’s say that you ran out of money in retirement, but you beat the benchmark. Does that give you solace? Did you win? Of course not.
This is more than an academic discussion. Benchmark fascination can promote bad behaviour.
Here’s where things can really blow up in your face. No single investment will outperform every other investment in perpetuity; that is a fact.
With excessive microanalysis not only do we have the potential to sell perfectly appropriate investments that are temporarily out of favour, there is also the risk of compounding that initial mistake if the replacement investments are overpriced. And there are very good odds that the replacement investment will have had a recent run of good luck. It’s a function of the situation; any investment that appears more favourable is almost certainly due to recent past performance, however temporary that may be. It’s a sell low – buy high double whammy.
Focus on what counts. Are you doing the things that you need to do in order to reach your Great Goals in life?
