The first half of 2020 has been the most volatile period for investors since the 2008 financial crisis. Having just passed the halfway mark, many investors will be reviewing their portfolios’ performance, trying to gauge just how well they survived the turbulence. But in doing so, it’s important to remember that how you conduct such an evaluation can have significant consequences: the traditional use of a static benchmark may not tell you very much at all, and in fact may lead to some bad decisions going forward.
This is because your portfolio can underperform or outperform depending on what weightings and components of the benchmark are chosen in its construction.
For example, during the resource run from 2000 through to 2008, Canadian equity markets and emerging markets were the place to be, and outperformed U.S. equities still reeling from the bursting of the tech bubble.
However, over the past decade this has completely reversed thanks to the explosive run in U.S. tech stocks that has come as the FANGless rest of the world barely drifted along. The gap has widened even further during the coronavirus shutdown, with investors rapidly herding into technology stocks.
Consequently, the NASDAQ is actually up 12.5 per cent this year while the S&P 500 has nearly recouped all of its losses and is down only 3.1 per cent. Looking out longer-term, the S&P 500 is still up an astonishing 50 per cent over the past five years while the NASDAQ has skyrocketed over 130 per cent.
Compare this to the S&P TSX, which is still down 7.5 per cent this year and up just a paltry six per cent over the past five years. It gets worse for those in all developed markets outside of North America with the MSCI EAFE index down 14.5 per cent this year and a shocking 3.5 per cent over the past five years.
This kind of long-term underperformance can lead to what the industry calls “career risk,” in which fund managers and advisers who underperform against a particular benchmark can wind up losing clients. As a result, managers can be highly motivated to take additional risk with your portfolio in order to try and play catch-up to the benchmark to which they are being compared or another adviser they are competing against.
For the investor, it can also be extremely tempting to give in to the fear-of-missing-out, either by chasing returns within one’s portfolio or by switching to an adviser willing to pursue the hot sector. In today’s environment, the risk of this is moving into those top performing sectors of the market such as the NASDAQ while selling the laggards, including value-heavy names such as Berkshire Hathaway, which is down 22 per cent this year. The point is, like that resource run coming to an end in 2008, no-one knows what the future holds.
All of this can be avoided if you transition the expectations you put on your adviser from trying to beat “the market” to constructing a portfolio to generate a target return designed to meet your specific goals while taking as little risk as possible. These goals can include maintaining a particular lifestyle in retirement, building up a targeted estate value, or funding a charitable giving plan.
The benefit of goals-based benchmarking is that it removes emotional biases such as performance chasing.
When it comes to utilizing this approach, have a look at how you are strategically positioned, including global diversification, how your portfolio did during the worst crash since 2008, and how on track you are to meeting your target return. For those who haven’t made a financial plan, it can be a great first step in helping determine what that target should be in context of current market conditions.
Finally, remember that while it is human nature to want to compare ourselves against others, doing so often only adds to our anxiety and can lead to poor decision-making. Ultimately, this means giving up on trying to beat everyone else and instead to start running your own race.
Martin Pelletier, CFA, is a portfolio manager at Wellington-Altus Private Counsel Inc. (formerly TriVest Wealth Counsel Ltd.), a private client and institutional investment firm specializing in discretionary risk-managed portfolios, investment audit/oversight and advanced tax and estate planning.