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By Ben Johnson, CFA and Christine Benz | 09-23-2015 03:00 PM

Do You Need a Real-Money Benchmark?

Investing a modest amount in a benchmark that reflects your investment mix provides a real-dollar gauge of how your portfolio is doing, says Morningstar's Ben Johnson.

Christine Benz: Hi, I'm Christine Benz for Many investors may have heard they need a benchmark, but they may struggle with the logistics. Joining me to discuss this topic is Ben Johnson. He is editor of Morningstar ETFInvestor.

Ben, thank you so much for being here.

Ben Johnson: Thanks for having me, Christine.

Benz: Ben, you wrote a piece in the September issue of ETFInvestor, where you talked about benchmarking, why you need a benchmark, and also you put forth a few simple ideas for benchmarking your portfolio. But let's start with why someone needs a benchmark. Why is that an essential ingredient in any sort of portfolio plan?

Johnson: Well, I think there can be a lot of value to be found in building one's own benchmark--a benchmark that reflects your personal circumstances, reflects your asset allocation, reflects your fund-selection decisions, and reflects also some element of the cost of advice or the cost of help in one form or another. I think by placing a de minimis amount of money in such a benchmark, which is easier to do today than ever before--and we can get deeper into that in a minute--it gives you a useful touch point in terms of how you are doing. Are your decisions adding value or are they subtracting value? And by investing real money into your own bespoke personal benchmark, you have a real fungible sense of what that opportunity cost might be, what money you might be leaving on the table by opting for your current course or your current plan, or you might learn that you're doing really quite well--in terms of picking funds, in terms of selecting your appropriate asset allocation, in terms of selecting a helper to help you do all of the above.

Benz: You mentioned a real-money benchmark; that's a little different from what I've recommended to users with our portfolio manager, where they could set up a mirror portfolio. You suggest that they actually take dollars, put it into this portfolio, and use it as a benchmark.

Johnson: I say that because I think it's really quite simple to easily dismiss something that you might see in paper format--something that you might have built using some of the multitude of tools that we make available to investors via our website. I think if you put actual skin in that benchmark--and it doesn't have to be much, just a token dollar amount into one of these benchmarks--it becomes real. It brings that benchmark to life, and it really frames that potential opportunity cost in real-dollar terms. So, I think there is sort of an important behavioral/mental mechanism or a switch that gets flipped by virtue of putting real money in your own personal benchmark.

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