Benchmark

An index which is used to compare performance of an investment, portfolio or fund. For example many investors in stocks use the S&P 500 as a benchmark. If their returns that year were higher than the S&P’s returns, they are said to have “beaten the market”.

An appropriate benchmark must be chosen to be effective. A bond investor may choose a bond index, but there is quite a large difference between junk bonds and AAA corporate bonds. It would be unsuitable for an investor in commodities to use the Dow Jones Industrial Average as a benchmark, a more appropriate benchmark may be the Commodities Research Bureau Index(known as the CRB index).

In a raging bull market, your holdings may have gained a lot in value, but when compared to a benchmark, it may dampen the euphoria. However, in a bear market when say the S&P is down 20%, a 15% decline in your portfolio may be of little solace. Nevertheless, comparing returns with a benchmark gives you a sense of how well your investments did relatively.

Some investors who believe in the random walk theory and the Efficient Market Hypothesis invest in a fund which track a benchmark index such as the S&P 500.

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