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What are investment benchmarks and why do they matter?   By Edwin Lo Chief Investment Officer

Investment benchmarks are a vital tool when it comes to evaluating the performance of an investment manager, helping to compare the returns of a portfolio to a relative market index, peer group or other measure, such as cash or inflation. Investment benchmarks are a vital tool when it comes to evaluating the performance of an investment manager, helping to compare the returns of a portfolio to a relative market index, peer group or other measure, such as cash or inflation.  While we know that past performance is not a reliable indicator of future performance, comparing a fund’s track record to a benchmark does help to show whether a manager has reliably and consistently delivered on its investment objectives over time.  When it comes to selecting a benchmark, the following are just a few of the options available.  Market indices One of the most common types of benchmark is a market index, which defines the opportunity set and helps investors to compare a manager’s relative return.   Market indices can cover a very wide range of securities, such as the MSCI World Index which captures large and mid-cap stocks across 23 different countries. They can also be much narrower, focusing on one country or a particular sector, such as healthcare or technology.  Indices are popular among fund managers that are focused on a single asset class, such as listed equities or property, as they help to gauge the movement and performance of select segments of the market and manager outperformance or underperformance against them.  Australian equity portfolio returns, for example, are often compared against the S&P/ASX 200, which covers the large to mid-cap investible universe in Australia.  Custom benchmarks Custom benchmarks are widely used by managers of diversified funds that contain many asset classes. They are often constructed by selecting one index for each asset class and combining these indices into a composite index or custom benchmark.  While this approach is positive in that it compares returns to an investible universe, one drawback is that as asset allocations become more complex and move beyond a few core and liquid asset classes, so too does the performance benchmark. This can make it more difficult for investors to accurately assess the relative returns.  Real return strategies Another alternative is to compare investment performance against an absolute return, such as the cash rate or inflation.  Some funds measure their returns against the risk-free rate (cash rate) with an additional percentage added based on the portfolio’s risk profile and overall asset allocation.  There are some drawbacks to using cash as a benchmark, as it can produce negative real returns in high inflation environments. However, it is often used for conservative fixed income funds, which are typically focused on capital preservation and reasonable returns, rather than generating growth. The Consumer Price Index (CPI), which measures inflation, is more widely used as a performance benchmark, and with good reason.  Targeting CPI allows a fund to set clear, measurable goals for preserving the real value of investors' savings, facilitating effective portfolio management and communication with investors and helping investors to assess whether their funds are actually growing. When compared to custom benchmarks, CPI+ is also a simpler method for diversified funds of measuring investment outcomes against a clear target.  Let’s contrast this with a target of beating a composite index by 2%. If the fund has achieved its target of 5% and the index has delivered 3%, the fund has met its performance target. However, if inflation is sitting at 6%, investors have lost money in real terms. This is why using an inflation-plus target makes sense to a number of different investors.  Summary In summary, benchmarks are important because they allow investment managers to identify areas of strength and weakness in their strategies and zero in on areas for improvement. They also help investors to assess whether they are receiving adequate returns for the level of risk taken and understand how their investment is performing relative to similar portfolios.  While there are other factors that can impact investment performance which are not captured by benchmarks, such as transaction costs, taxes and management fees, they can be a useful tool for helping investors to make more informed decisions.    Important information: The Uniting Financial Services (UFS) unregistered managed investment schemes are available for investment only to wholesale investors. Prospective wholesale investors who wish to invest via our unregistered managed investment schemes can access the Information Memoranda for these any of these funds on the UFS website. While the information in this email has been prepared with all reasonable care, UFS accepts no responsibility or liability for any errors, omissions or misstatements however caused. No action has been taken to register or qualify these products or otherwise permit a public offering of these products in any jurisdiction outside Australia. Past performance is not indicative of future performance.

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  Important for you to know Financial services are provided by The Uniting Church (NSW) Trust Association Limited ACN 000 022 480, ABN 89 725 654 978, AFSL 292186 (“UCTAL”) and by The Uniting Church in Australia Property Trust (NSW) ABN 77 005 284 605 (“UCAPT”) (together and separately “Uniting Financial Services”), for The Uniting Church in Australia, Synod of NSW and the ACT (“Synod”), under a s.911A Corporations Act 2001 (Cth.) authorisation and pursuant to APRA Banking Exemption No. 1 of 2021 and ASIC Regulatory Guide 87 and ASIC Corporations (Charitable Investment Fundraising) Instrument 2016/813 exemptions. Uniting Financial Services® is a registered trademark of UCTAL used with permission of UCAPT. None of The Uniting Church in Australia, UCAPT and UCTAL is prudentially supervised by APRA. Therefore, investments with or contributions to these Uniting Church organisations will not receive the benefit of the Financial Claims Scheme or the depositor protection provisions in the Banking Act 1959 (Cth.). All financial services and products are designed for investors who wish to promote the religious and charitable purposes of Uniting Financial Services and The Uniting Church in Australia and for whom profit considerations are not of primary importance in their decision to invest. The information on this page has been prepared without considering your objectives, financial situation or needs. You should, before acting on it, consider its appropriateness to your circumstances or refer to the relevant disclosure document. Loan applications are subject to credit approval. Interest rates are subject to change. Fees and charges may apply. 

Kindly note that the information on this webpage is only intended for wholesale, professional or sophisticated investors (as defined in the Corporations Act). Please do not refer to this webpage if you are not one of these investors. Uniting Financial Services is not providing any personal advice or recommendation regarding any financial products described or referred to on this webpage. Prospective investors should make their own enquiries and should seek all necessary financial, legal, tax and investment advice. Past performance is not indicative of future performance, all information contained on this wepbage is current at the date of publication, however may be subjected to change without notice.