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Killik Explains: Are stock market investors following the right numbers?

By: Tim Bennett
18.07.2019

Measuring your performance in the stock market relies on choosing the right benchmark. Tim Bennett explains why this isn’t always easy.
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Are stock market investors following the right numbers?

One of the keys to knowing how well you are doing over the long-term is comparing your returns to the right benchmark. This isn’t always as simple as it sounds.

Background

Over the past fifty years the UK stock market has performed well, albeit there have been some big dips along the way. But, how do you judge how well? The answer depends on how you measure its performance. This is about choosing the best benchmark.

A benchmark should offer…

As an investor, you can judge your performance against almost anything, for example the return from other asset classes, your expectations and of course the past. Most investors, however, like to use an index of some sort. This is one of the key reasons that they exist. To be useful, the index that you compare your portfolio to needs to offer certain features.
To understand why an index can be problematic, let’s take a quick look at the FTSE 100.

The FTSE 100

Although this is perhaps the UK’s best-known stock index, it is infact not always the most useful one for investors.
There are several reasons to be careful about relying on this index to provide a performance baseline.
The question then becomes – can we find something better? Well, if we want to find a benchmark that encompasses a wider selection of UK shares and factors in reinvested income (an important component of long-term returns) there is another option.

The FTSE All-Share total return index

This index goes some way to solving some of the key issues facing an investor with the FTSE 100.

What is total return?

Total return indices assume that all income is being reinvested. If this is not the case, perhaps because a portfolio is being relied on for income, then it is less appropriate. The point here is that thought needs to be given to the right benchmark for an investor’s circumstances.

Price versus total return

To see the difference this one key choice makes, have a look at the FTSE All-Share capital-only and total return indices side by side.
Both show decent long-term gains, but the total return index shows more than double the long-term appreciation.

Other benchmark challenges

Selecting the right index can come with other headaches once you start to look beyond a relatively simple UK portfolio.

For example, many of the emerging market indices are dominated by certain countries and sectors. Like their better known peers, they also tend to use market capitalisation to measure performance, taking the view that big is best. This isn’t always wise as it can lead to a “buy high, sell low” approach.

Conclusions

The key takeaway here is that the biggest and best-known indices are not always the best. Choosing the right one may need some careful thought where a portfolio is complex. The final choice also needs to take account of variables, such as the decision over whether, or not, to reinvest income.

To find out more

An Investment Manager will be very happy to talk about this at more length, or feel free to email me at the usual place below at [email protected].

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Please remember that we are an investment company and as is the very nature of investing, there are inherent risks. The value of your investments can both rise and fall over time and you cannot assume that past performance will repeat itself. You must be comfortable in the knowledge that you may receive less than you originally invested. The tax treatment of your investments with Killik & Co will depend entirely on your individual circumstances and may be subject to change, so please do seek advice.

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© 2018 Killik & Co. All rights reserved. Killik & Co LLP is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales No. OC325132 at 46 Grosvenor Street, London, W1K 3HN. A list of partners is available to view here.
© 2018 Killik & Co. All rights reserved. Killik & Co LLP is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales No. OC325132 at 46 Grosvenor Street, London, W1K 3HN. A list of partners is available to view here.
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