Saturday, May 12, 2007

Benchmarking your holdings against the S&P 500

Mutual fund managers, investment portfolio managers, and individual investors want to know if they're "beating the market." The benchmark they often compare themselves to is the S&P 500, a basket of the 500 largest large-cap, mostly American stocks. Many times, this is not even the benchmark you should be comparing yourself to. For instance, a small cap mutual fund should benchmark against the S&P 600 SmallCap Index or the Russell 2000 Index.

For simplicity's sake, if I want to know if I'm beating the market, I compare my investment performance to the S&P 500. Comparing my portfolio to this benchmark tells me if I'm doing better with my money than if I had simply dumped all of my funds into an S&P 500 index fund, which is the advice you'll get from many retirement gurus. I do have some of my money in index funds, and recommend that young folks start out their portfolio with index funds. But I also hold over 40 small cap stocks, and I don't want to waste my time researching them and pay hundreds in commissions unless I'm "beating the market."

To compare your performance over any particular time period, you can go to Yahoo Finance and pull down the daily closing prices of the S&P 500 (or any stock, for that matter). You can enter in any date range you like and get daily, weekly, or monthy closing prices. You can then dump the info into an Excel spreadsheet and calculate returns over any time period you like.

Also of note is a post over at All Financial Matters entitled, "S&P 500 Fun Facts." JLP looked at the seventy-seven 5-year holding periods between 1926 and 2006. Besides learning a little more about this famous benchmark, you'll note that over those 77 periods, you would have made money 67 times, and lost money 10 times. You make money 87% of the time. And the average annualized return over those 77 periods is 10.41%.

While the market might be frothy right now, and while you might be nervous and think it's overpriced, history proves that the markets are the best place to keep your money, and that you'll make money over the long haul. Look at these historical charts - I wonder what people in 1987 were thinking - they were staring at an S&P 500 that had risen from 62.34 in late 1974 to 335.89 in 1987. I'll bet many an investor had thought the market had topped out, that it was peaking, time to get out. Truth be told, Black Monday did take a nice chunk out of the market - the S&P 500 dropped as low as 223.91. But just look now - we're topping 1,500 again. From 223 to 1,500! To have the foresight and courage during a difficult 1987 to continue to invest in the market would have you sitting on a large pile of money today.

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