One of the great pastimes of investing is comparing performance. The standard comparison is usually with S&P 500, or worse, the Dow Jones Industrial Average.
For example, I signed up with SigFig years ago. Now that I use Personal Capital, I rarely look at SigFig, but they do send me weekly emails. Here’s part of this weekend’s email:
I’d like you to take two things away from this chart:
- I’m clearly a superb stock picker… even if most of my investing is in Lazy-approved index funds.
- This shows the typical DJIA and S&P 500 comparisons that I’m referring to
What’s wrong with comparisons to the DJIA and the S&P 500? The DJIA consists of 30 of the largest stocks in the United States. The S&P 500 consists of 500 of the largest stocks in the United States. That means that the DJIA is a subset of the S&P 500. There’s 100% overlap in that very small data sample. The S&P 500 is better, but again, it only covers stocks of large US companies.
Here are my performance results from Personal Capital:
(I’m going ignore this week’s performance and pretend that didn’t happen. I’m more interested in long term averages in general.)
I like Personal Capital’s update better. They decided that one large US stock index is enough and kicked the DJIA to the curb. Good choice in picking the more diversified index.
They make another wise decision and provide two new index comparisons, foreign stocks and bonds. This is particularly useful because every diversified portfolio I’ve seen recommended includes at least one, but usually both of those. Maybe there is someone out there who advocates to just put your money in the S&P 500, but I haven’t come across him/her yet.
That’s the problem with all these comparisons: A well-constructed, diversified portfolio shouldn’t be compared to any single index.
Let’s look at the Personal Capital chart again. Did you notice the words at the bottom? My “holdings fell… underperforming the S&P 500.” That feels like shaming to me. It seems to imply that I should have just put all my money in the S&P 500 and done better. (Am I alone in feel this way?)
I’ll let you in on a secret: I don’t invest in the S&P 500. I prefer to invest in the the Wilshire 5000 because it includes midsize and small companies. The market tends to move together so it isn’t a big difference, but I don’t see a compelling reason to avoid around 4500 companies just because they are smaller. I choose index funds because they are diverse. More diversity is better.
In other words, if you are going to use US stocks as a comparison, why not choose the most inclusive index?
Let’s move on from the US stock indexes. My portfolio consists of so many things. Here are just a few examples: Europe/Asia companies, emerging markets, frontier markets, oil, monkey butlers, bonds, REITS, and cash. (We hold real estate, P2P lending, and other things as well, but those don’t fit in a normal brokerage account framework).
[Note: I’m considering selling my monkey butler holdings as Amazon ramps up their home robot business.]
Comparing my holdings to the S&P 500 is nonsensical. I’m not looking to perform like the S&P 500. If I was, I’d just invest in the S&P 500. Instead, I’d like my investments to grow over time, while not losing as much money if/when the US market goes south.
Sometimes when I’m critical of something, people ask, “So how do you suggest we change and do better?” I think an easy stopgap measure is for companies to switch to the Wilshire 5000 instead of the DJIA or the S&P 500. I’m hopeful that’s just a few lines of code for the software engineers at the company.
Longer term, I’d like to see companies ask about people’s risk tolerance and create a blend based on those preferences. One simple example could be the common 60/40 stock/bond portfolio. Imagine the Personal Capital chart above with a “Target” that gives the YTD performance of a portfolio with a 60% Wilshire 5000 index and a 40% broad bond index. In this case, the “Target” would be down around 1% for the year. (This can be more complex to include foreign stocks and monkey butler investment performance if necessary.)
That seems like an improvement, right? Let me know what you think in the comments.
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