Beware those S&P 500 benchmarks

March 26, 2010
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Next time a fund manager brags of outperforming the S&P 500, remember this:

A favorite index for advisers has been the S&P 500, because its performance has been below every other major asset class over the past decade. Virtually any portfolio diversification away from large-cap U.S. stocks would have outperformed the predominantly large-cap S&P 500. All an investor needed was a small allocation to international stocks, small-cap stocks, REITs or bonds–or even cash–and his portfolio would have “beaten the market.”

I don’t actually have a problem with using the S&P 500 as a benchmark for a fund with a dynamic asset-allocation policy, so long as the benchmark is consistently used and was set ex ante. But if anybody starts telling you now how much they’ve beaten the S&P 500 by over the past 10 years, then before investing with them it’s definitely worth asking to see their marketing materials in the intervening years. It’s pretty important that they always used the S&P 500, and not just when it made them look good. Otherwise, Richard Ferri is right that the comparison is downright misleading, and not the kind of behavior one would expect from a fiduciary.

(Via Abnormal Returns)

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