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Choosing the Right Benchmarks for Your Mutual Fund

Key Points

» What Are Investment Benchmarks?
» What’s in a Name?
» Money Market Funds
» Bond Funds
» Equity Funds
» Commonly Used Benchmarks
» Apples to Apples
» Consider Appropriate Time Frames
» Benchmarks Should Be Resources — NotDeciding Factors
» Points to remember

Community school boards use standardized tests to gauge how their
students perform in relation to national averages. On an even more
basic level, your local weather forecasters can check the accuracy
of their predictions by measuring temperatures and rainfall. As a
mutual fund investor, you also have tools available to gauge the
performance of your investments. Such tools are known as market
benchmarks. The challenge, however, is choosing the tool that most
accurately serves your purpose.

What Are Investment Benchmarks? 

The dictionary defines a benchmark as “a point of reference for
measurement.” Market benchmarks are used by individual investors,
portfolio managers, and market researchers to determine how a
particular market or market sector performs. Often cited in news
reports, market indexes can be especially helpful to mutual fund
investors by offering market “standards” to help them evaluate the
risk and the return history of their own investments. However,
investors should remember to compare their mutual fund to the index
that best tracks securities comparable to the fund’s holdings,
and to use an appropriate time frame.

What’s in a Name? 

The appropriate index for your needs is not always easily
identified by its name or popularity. For example, most people have
heard of the Dow Jones Industrial Average, since its closing
figures are quoted nightly on news broadcasts. However, many people
may not be aware that the Dow tracks only 30 stocks of some of
America’s largest companies — not a very reliable source
for comparison if your fund’s holdings include
small-capitalization or international companies.

To help you determine which index may be appropriate for your
needs, following are descriptions of some of the more popular
indexes, separated into mutual fund categories.

Money Market Funds1 

  • IBC’s Money Fund Report Averages: These benchmarks
    track the averages of taxable and tax-free money market fund yields
    on a 7- and 30-day basis.


  • Barclays Aggregate Bond Index: A combination of several
    bond indexes, Barclays indexes are among the most widely used
    benchmarks of bond market total returns.

  • 10-Year U.S. Treasury Bond: The yield on this long-term
    U.S. government bond is often looked to as the standard bond yield
    for long-term bond investments.

Equity Funds 

  • Standard & Poor’s Composite Index of 500 Stocks
    (S&P 500)
    : A broad-based, unmanaged measurement of the
    average performance of 500 widely held industrial, transportation,
    financial, and utility stocks. Many people believe that this, among
    the most often cited indexes, includes the 500 largest stocks on
    the New York Stock Exchange. Not true: In fact, it includes the
    stocks of companies that are or have been leaders in their
    respective industries and that are listed in the New York Stock
    Exchange, the American Stock Exchange, and the NASDAQ Market
    System. The industry weightings in the S&P 500 are selected to
    reflect the components of gross domestic product.
  • The Nasdaq Composite Index: This large index (over 3,000
    issues) was created in 1971 to measure all common stocks that are
    traded in the Nasdaq market.
  • Morgan Stanley Capital International’s Europe,
    Australasia, Far East (EAFE) Index
    : The most prominent of the
    indexes that track international stock markets, the EAFE is
    composed of companies considered representative of 21 European and
    Pacific Basin countries.
  • In addition to the above, other indexes are: the Value Line
    Composite Index
    (stocks); the Russell 2000 Index
    (small-cap stocks); the Citi-3-Month T-bill (money markets);
    the Dow Jones World Stock Market Index (major international
    markets, including the U.S. market); and the Barclays Global
    Aggregate Bond Index
    (global bond index).

Commonly Used
To compare… You might refer to…
Money Market Funds
  • IBC’s Money Fund Report Averages
Bond Funds
  • Barclays Aggregate Bond Index
  • 10-Year U.S. Treasury Bond
Equity Funds
  • S&P 500 Index
  • Nasdaq Index
  • MSCI EAFE Index

Apples to Apples 

As noted earlier, the key to navigating the maze of benchmarks is
to know which one best tracks securities similar to the holdings in
your fund. But remember that you don’t have to be an
experienced market researcher to find out which benchmark is for
you. Most mutual fund prospectuses, annual reports, and SAIs
(statements of additional information) list the comparable index,
usually right in the “investment objective” section. Often, a fund
that tracks more than one sector or asset class may list more than
one index to reference. For example, a balanced fund may reference
both the Barclays Bond Index and the S&P 500 to measure its
bond and stock holdings, respectively. Finding the right index is
yet one more example of why it’s so important to read a
prospectus carefully before investing in a fund.

Consider Appropriate Time
When evaluating a mutual fund in
relation to its benchmark, remember to consider performance over a
period of time that is similar to your investment time frame. This
chart shows average annualized returns for three popular

Sources: Standard &
Poor’s; Morgan Stanley; Citigroup. Based on the annual total
returns of the S&P 500, the MSCI EAFE Index, and the Citi Broad
Investment Grade Index for the listed time periods ended December
31, 2007.

Though benchmark indexes are not actively managed or available for
investment purposes, some funds actually hold the same securities
that are in the index. Known as index funds, these funds are
managed with a “passive” style: The fund manager only needs to
monitor the holdings in the benchmark index and make adjustments in
the fund accordingly. Generally, the objective of an index fund is
merely to maintain performance standards similar to the index that
it tracks, whereas other funds often seek to outperform their
benchmark indexes. Index funds can sometimes offer lower management
fees because of their passive management style.

Benchmarks Should Be Resources — Not Deciding Factors 

While indexes are good methods of gauging how a mutual fund
performs in relation to the overall market, they shouldn’t be
the deciding factor in determining if a fund may meet your needs
and objectives. When evaluating a fund, ask yourself the following

  • Does the fund’s objective seek to meet your investment
  • How long will your money be invested in the fund? Though past
    performance cannot guarantee future results, consider the
    performance record of the fund over a similar time frame.
  • How well can you withstand fluctuations in the value of your
    investment over time?

The benchmark listed in your fund’s prospectus will give you a
good idea of what to expect from your mutual fund. However,
remember that standardized tests are just that — standardized.
They are not meant to represent individuals and their needs and
financial circumstances. Your investment representative can help
you evaluate an investment in terms of your personal objectives and
risk tolerance and can also show you how to use a benchmark index
in the most effective way.

Points to Remember 

  1. An investment benchmark is a tool used by investors and
    portfolio managers to gauge how an investment performed in relation
    to the overall market.
  2. The appropriate index for your mutual fund investing needs is
    not easily identified by its name or popularity level.
  3. Remember to compare “apples to apples”: choose the benchmark
    that most accurately reflects the holdings in your mutual
  4. Most prospectuses, annual reports, and SAIs list the
    benchmark(s) most appropriate for your mutual fund.
  5. Benchmark indexes are not managed and do not reflect trading
    costs or fees, and investors cannot invest in them.
  6. Index funds sometimes offer investors close to market returns
    and seek to maintain performance standards similar to the indexes
    they track.
  7. Use benchmarks merely as resources, not deciding factors, when
    evaluating a mutual fund.
  8. Research mutual funds with your investment advisor, who can
    show you how to use benchmarks in the most effective manner.

1An investment in a money market fund is not insured or
guaranteed by the Federal Deposit Insurance Corporation or any
other government agency. Although the fund seeks to preserve the
value of your investment at $1.00 per share, it is possible to lose
money by investing in the fund.

2The performance of any index is not indicative of the
performance of any particular investment. Keep in mind that indexes
do not take into account any fees and expenses of the individual
investments that they track and that individuals cannot invest
directly in any index. Past performance is no indication of future
results. Investors in international securities are sometimes
subject to somewhat higher taxation and higher currency risk, as
well as less liquidity, compared with investors in domestic

© 2010 Standard & Poor’s Financial Communications. All
rights reserved.