M1 Blog

Benchmarks: Why Choosing the Right One Matters

M1 Team
M1 Team June 10, 2025

When someone asks, “How’s your portfolio performing?” many investors compare their returns to the S&P 500. It’s a natural instinct – after all, the S&P 500 is widely reported in financial news and often viewed as the barometer of market health. But here’s the critical question: Is the S&P 500 actually the right benchmark for your unique investment strategy? 

For some investors, using an appropriate benchmark isn’t just about measuring performance – it’s about gaining actionable insights that can improve decision-making. The right benchmark helps you understand if your strategy is working as intended, while the wrong benchmark can lead to misguided conclusions and potentially costly adjustments to your portfolio. 

The Purpose of Benchmarking 

Before diving into specific benchmarks, let’s clarify what a benchmark should actually do: 

  1. Provide a relevant comparison for your particular investment strategy 
  1. Offer context for performance during different market conditions 
  1. Help identify strengths and weaknesses in your approach 

Considerations to take when Benchmarking

Using a benchmark that doesn’t align with your investment approach may create several potential considerations worth understanding: 

Strategy Evaluation Challenges: When comparing a diversified portfolio to a single-index benchmark like the S&P 500, the comparison may not provide a complete picture of performance. Some investors might consider strategy adjustments based on these comparisons, though many factors beyond benchmarks should inform investment decisions. 

Context for Performance: Different benchmarks can provide different performance contexts. A portfolio with specific objectives might appear to underperform or outperform depending on which benchmark is used for comparison. This context can be important when evaluating results. 

Emotional Perspective: Performance comparisons often involve emotional components. Some investors may find it helpful to use benchmarks that align with their specific investment approach rather than broader market indices. 

Additional Insights: Using benchmarks that reflect your actual portfolio composition might provide different perspectives than using unrelated indices. These different perspectives may offer additional context for understanding performance. 

Many investment professionals suggest that using benchmarks that share characteristics with your portfolio’s composition and risk level can provide helpful context, though each investor’s situation is unique and requires individual consideration. 

Common Benchmarks 

The S&P 500  

The S&P 500 tracks the performance of 500 large U.S. companies and represents about 80% of available market capitalization.  

Some potential advantages of using the S&P 500 include: 

  • Provides a recognized standard with extensive historical data 
  • Offers transparency with clear, publicly available methodology 
  • Serves as a widely reported reference point for general market conditions 

While it’s widely used, it has significant limitations as a universal benchmark: 

  • Ignores international exposure: If your portfolio includes international stocks, comparing to a purely domestic index misrepresents your performance 
  • Excludes bonds and alternative investments: For any diversified portfolio, the S&P 500 only benchmarks a portion of your holdings 
  • Size bias: Focuses on large companies, making it inappropriate for portfolios with small or mid-cap exposure 
  • Sector imbalances: Can be heavily weighted toward certain sectors (like technology), potentially creating misleading comparisons 

The 60/40 Portfolio 

The traditional 60% stocks/40% bonds portfolio serves as another common benchmark, offering distinct advantages for certain investors: 

  • Better represents balanced portfolios with significant bond exposure 
  • Provides a more realistic comparison for moderate-risk approaches 
  • Incorporates some level of diversification 

However, it may presents limitations: 

  • Fixed allocation may not match your risk profile 
  • Typically U.S.-centric in both equity and fixed income 
  • Doesn’t account for alternative assets 
  • May not reflect your specific investment goals 

Alternatives 

Custom Benchmarks: Creating a weighted blend of indices that match your target allocation provides the most accurate performance measurement. For example, a globally diversified moderate portfolio might use a benchmark that’s 40% S&P 500, 30% international indices, and 30% bond indices – precisely matching the intended allocation. 

ETF: Another practical approach involves identifying ETFs with similar strategies to yours, providing real-world comparisons rather than theoretical indices. 

The Challenges of DIY Benchmarking 

While understanding proper benchmarking is crucial, implementing it yourself can create some hurdles: 

Time-Consuming Calculations: Manually tracking multiple indices, calculating weighted returns, and adjusting for changes in your strategy may require substantial time and effort. 

Data Accuracy Issues: Small errors in manual calculations compound over time, potentially leading to flawed conclusions about performance. 

Consistency Problems: Life gets busy, and maintaining consistent benchmarking across years becomes challenging without automated systems. 

Drift Complications: As benchmark components perform differently, your benchmark allocation drifts from your target – requiring regular rebalancing calculations that few investors perform. 

Limited Resources: Finding reliable, cost-free sources for accurate benchmark data presents another obstacle for individual investors. 

Choosing Your Ideal Benchmark 

Your benchmark should align with: 

  1. Your risk tolerance and asset allocation – A conservative investor with significant bond holdings may not want to use the S&P 500 as their primary benchmark. 
  1. Your specific investment goals – Income-focused retirees need different benchmarks than growth-oriented accumulators. 
  1. Your actual portfolio composition – Geographic exposure, company size, style orientation, and alternative allocations should all be reflected. 

The most valuable insight often comes from comparing your performance to multiple relevant benchmarks rather than seeking a single perfect measure. 

Considerations for Performance Evaluation 

When thinking about investment performance measurement, some investors consider these general approaches: 

  1. Benchmark Alignment: Some investors periodically review whether their chosen benchmark reflects their portfolio’s composition and objectives. 
  1. Investment Approach Clarity: Understanding your own investment philosophy and goals may help when considering which benchmarks might be relevant for context. 
  1. Multiple Reference Points: Rather than using a single comparison point, some investors find value in viewing performance through several different relevant benchmarks. 
  1. Measurement Consistency: Many investment professionals suggest that whatever measurement approach an investor chooses, applying it consistently across different time periods may provide more contextual information. 
  1. Time Horizon Perspective: Some investment approaches benefit from longer-term evaluation periods that include different market environments, though appropriate timeframes vary by individual circumstances. 

These considerations aren’t personalized recommendations, and individual investors should determine what approach best suits their specific situation. Different approaches may be appropriate for different investment strategies. 

Conclusion 

Choosing the right benchmark isn’t about finding one that makes your performance look best – it’s about gaining meaningful insights that improve your investment decision-making. By implementing benchmarks tailored to your unique portfolio, you’ll navigate with greater clarity toward your financial goals. 

Ready to improve how you measure investment performance? Stay tuned for exciting updates.. 

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