INVESTING WITH CLARITY® BLOG
Sometimes the Numbers DO Lie!
January 18, 2012 8:54:00 AM
Now that 2011 is done and gone, investors are assessing their portfolios and how they performed in the previous year.
As investors try to decide what went right and wrong, many investors will come to the realization their portfolio probably underperformed the S&P 500 in 2011.
If you ask most investment professionals, they will tell you 2011 was a very difficult year to invest.
Why is that you ask?
With the crisis in Europe to concerns over spending and inflation in the U.S., many investors continue to be extremely nervous about investing.
After all, have you heard or said to yourself recently, I don't care how much money I make, I just don't want to lose any.
Funny thing about that statement.... I mean, after all, who decided that a portfolio return should be based on a calendar year anyway? Has anyone taken a look at the average return of their portfolio in the last three years?
With all the uncertainty floating around in the air, it is no wonder that valuations on many companies continue to move lower.
For example, in 1999 at the peak of the market (when every investor couldn't wait to put their money in the market and then log into their computer and look at their portfolio every 5 minutes), the S&P 500 was trading near 29x earnings.
Today, the S&P 500 trades around 12x earnings. That is more than a 58% decrease from 1999!!!
So, this brings me back to my comment earlier about 2011 being a very difficult year for investing. You see, the irony here is that the S&P 500 actually closed just about flat in 2011 and the Dow was up slightly while many portfolios had negative returns.
The disconnect lies in the actual allocation of investors portfolios. Many investors use the S&P 500 to enchmark the performance of their portfolio. However, many portfolios are not remotely allocated similar to the S&P 500.
So, why is it that many investors choose to use the S&P 500? Probably because that is what people have done for so long and its convenient.
With a global economy and more and more investors investing in companies around the world, using the S&P 500 index as your benchmark may not be an adequate way to judge your portfolio performance.
In 2011, many country indexes were down 15% to 2o% or more. So, the danger is investors may find themselves wanting to flock back into the S&P 500 index as they try to chase returns. This would be a big mistake.
What's the moral of the story?
Know what you own in your portfolio and why.
Back in 1999 a similar phenomenon happened as investors were frustrated with the performance of small and mid cap stocks. Many investors decided to move their money into S&P 500 index funds. Unfortunately, many investors ended up watching the small and mid cap stocks significantly outperformed the S&P 500 going forward.
Benchmarking your portfolio can be very difficult. Especially if you don't know what you own and why.
If you are going to own equities in your portfolio, you must adequately diversify and take a longer time horizon than just one year.
By understanding the philosophy and strategy of how your portfolio is managed you will more than likely have a stronger stomach for volatility.
This in turn should allow you the opportunity to invest like Warren Buffett - taking advantage of volatility to buy more of the companies you want to own over time.
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