Benchmark

In finance, a benchmark is "a standard against which the performance of a security, mutual fund or investment manager can be measured". For single asset classes, such as stocks and bonds, the relevant benchmark is typically a broad market index. For portfolios with multiple asset classes, the ideal personalized benchmark would be composed of several indices in the appropriate proportions. Examples of general (non-personalized) portfolio benchmarks appropriate for Canadians are the FPX Indexes and the Vanguard asset allocation ETFs.

The FPX Indexes
In 1997 the National Post newspaper decided that all Canadian investors needed a benchmark based on a typical Canadian investor holding a properly diversified portfolio and sensitized to the investor’s risk tolerance. Richard Croft and Eric Kirzner developed a set of three risk-adjusted indexes ("FPX Indexes") – one each for Income (Conservative), Balanced, and Growth investors. These three indexes were reported daily in the “FP Investing” section of the National Post. The following table is simplified from a 1998 National Post article by Kirzner:

Being investable indexes, any investor can buy the investments that make up the index. For many years daily values could be obtained from the Financial Post markets webpage, but at an unknown point in the past the Financial Post stopped making them available online. Historical returns are available are calculated and reported by the Croftgroup.

Asset allocation ETFs
The FPX benchmarks have a strong home country bias (a high allocation to Canadian equities), relatively high cash allocations, and relative proportions of US equities versus international equities that are different from those predicted by current market capitalizations. Also, there are only three FPX benchmarks. A more 'modern' alternative are asset allocation ETFs such as the five available from Vanguard Canada, which will be used as examples. These ETFs are investment products, not benchmarks per say, but they are designed as complete portfolios so they can be used as benchmarks, with the added benefit that the published returns include the MER, representing real-world results.

The Vanguard asset allocation ETFs have equity proportions ranging from 20% to 100% in twenty percent increments, representing a complete range of risk tolerances from "conservative income" to "all-equity". The proportion of Canadian equities versus the rest of the world is currently about 30%, a more modest home bias for equities than the 50% in the FPX indices. Equities from the rest of the world are mostly split according to their current market capitalizations, including an allocation to emerging market equities. In terms of cash and fixed income, the Vanguard ETFs have no cash component but some of the bonds are foreign bonds, although most are Canadian bonds. The following table summarizes their compositions in July 2021:

(totals don't always add up to 100% due to rounding)

Your personalized benchmark
The FPX indices and the asset allocation ETFs are possible benchmarks for quick comparisons with multi-asset portfolios. However they are not personalized benchmarks with the exactly correct allocations, for direct comparisons with specific portfolios. It is worth spending a few minutes each year to calculate your personalized benchmark.

Suppose that your investments returned 6.3% in 2016. Is this good or bad? To find out, you ideally need to compare your results to a personalized benchmark that reflects your asset allocation.

Return for each asset class
Suppose your portfolio contains 40% Canadian bonds, 20% Canadian equities, 20% US equities, 15% international equities and 5% real estate investment trusts (REITs). You need to find out the total return of the relevant index for each asset class, in Canadian dollars.

You can consult the Periodic table of annual returns for the major asset classes: for calendar year 2016 this shows +1.7% for bonds (All bonds), +21.1% for Canadian Equities (TSX), +8.6% for US equities (S&P500), and -1.5% for international equities (EAFE).

If an asset class is missing from the periodic table, you can find out the index return on the website of an exchange-traded fund (ETF) provider: here for REITs you find out that the 2016 return for the S&P/TSX Capped REIT Index, which the ETF XRE tracks, was +17.6%.

Benchmark return
You then calculate a weighted average index return, using the asset class weights and their yearly returns. In our example we have:

40%(Can Bonds)*1.7% + 20%(Can stocks)*21.1% + 20%(US stocks)*8.6% + 15%(Intl stocks)*(-1.5%) + 5%(REITs)*17.6% = 7.3%.

So you underperformed your personalized benchmark by 1.0% for 2016. Time to start thinking about why!