Basing Investment Health on the Overall Picture

I dare you to ask any of your colleagues, or even your financial advisor (if you have one), about how their investment are doing.

Most people will say something like, "I'm doing fine" or "I don't know."Most advisors will simply print some standard brokerage report for the accounts they're managing and tell you the return number.

Either way it's wrong.

One problem is that most people and advisors don't look at the whole picture,

which includes your and your spouse’s investment accounts, including your 401k accounts.

The second problem is that most people don't use the appropriate benchmark. A common mistake is that people compare their investment returns with the U.S. stock market averages. But if your overall portfolio contains some bonds and international stocks it is no longer valid to compare your portfolio to a benchmark that consists only of U.S. stocks.

So what you need to do is break down your entire portfolio into its components and then design an appropriate benchmark to evaluate investment performance.

For example, let's say that your portfolio has 50% in U.S. stocks, 20% in international stocks and 30% in bonds. The appropriate benchmark to use is a combination of a U.S. stock index, an international stock index and a bond index in the same proportions as your portfolio.

However, you must realize that your portfolio percentages will change as each asset class has different returns. This will throw off your comparisons to appropriate benchmarks, which will be static.

Finally, if you have an advisor who is trying to sell you a mutual fund that has "beaten" the market, one of the first things you should do is look at what benchmark the fund is using to make its claim of outperformance. If you do this, the outperformance goes away for the vast majority of funds that claim to have skillful money managers.

In future articles, I’ll discuss different ways of calculating investment performance. It looks deceptively simple, but in reality it’s more complex.

Your financial prescription:Compare your investment performance to the right benchmark.

The bottom line is that when you look at your portfolio performance, look at the whole pie not just the pieces. And make sure you're comparing it to a relevant benchmark.