The fourth of five risks in this series is called “Benchmark Risk.”
A benchmark is like a yardstick. You might want to measure the growth of a child and then compare the various heights of your children. You might want to compare your child’s height with the height of “normal” children at that age. The same is true with investments. If you fail to measure against a couple of benchmarks, you might not know how good or how poorly your investments are doing.
One year when the market was up 12%, my wife’s mother’s accounts were down 10%. That means the “adviser” who was helping her was doing a very poor job. He missed the target by 22% and lost her retirement money in the process. He was fired by me as soon as I realized what he was doing.
If fear or other concerns about volatility cause you to veer in your investment approach, then you are entering an area of risk. Oftentimes, when the market gets crazy, the uniformed rush to bonds and cash. They abandon the Dow Jones Industrial Average, the NASDAQ and/or the S&P 500. They are willing to settle for sub-par returns because they fail to understand the differences between volatility and risk.
I prefer to measure my returns against the S&P 500. I don’t panic if my returns are less than the S&P 500 on any given day. I know that my investment mix is not identical to the S&P 500 because I invest in individual stocks, not index funds. However, for most the index fund is the best way to go.
Recommendation: Buy a low-cost index fund that tracks the S&P500 (like FUSEX) or a similar total market ETF like ITOT that tracks the full market. Pay attention to expenses, not just the index!