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Keeping performance in perspective

It can be hard to ignore changes in your balance and avoid comparing your performance with someone else's. But it can also be smart.

POINTS TO KNOW

  • Checking your performance occasionally is fine, but don't get too hung up on short-term results.
  • When you are looking at the performance of your funds, make sure you're comparing it against comparable benchmarks.

Checking performance is OK, but don't get hung up on it

Most people understand that money they've invested isn't going to just sit there. Some days they'll have more money, some days less.

But when you see the market racing upward or crashing down and everyone else seems to be frantically reacting, it can be hard to accept that the prudent reaction is to just stick with your plan.

Remember that any strategy which involves predicting the future—whether it's knowing when to jump in and out of the market completely, or knowing which investments are next year's big winners—is unlikely to succeed for very long.

Consider this: Professional traders have access to detailed information about specific companies and industries, and many of them work with computer algorithms that can react to market movements in milliseconds.

But even they can't be sure what tomorrow will bring.

In the end, the thing that matters most to you is likely to be whether you met your investment goal or not. So focus on the progress you're making toward it, not what everyone else is doing.

Markets move—but here's why you shouldn't

It's 2009—the "Great Recession." Markets are in freefall. It's all everyone's talking about on the news, at the water cooler, and on the sidelines at your kid's soccer game.

It was a scary time for most investors, to be sure. But now that some time has passed, it's possible to get a little more perspective.

At the time, it was hard to see any silver linings between the storm clouds. In a matter of months, many investors lost significant portions of their life savings.

The "Great Recession" was a scary time in the stock market

A graph showing plummeting returns for the S&P 500 Index during the Great Recession

This graph shows the month-end balances of a hypothetical $50,000 investment in the Standard & Poor's 500 Index between August 2007 and February 2009. Assumes reinvestment of earnings. Note that you can't invest directly in an index.

Read chart description

But those same investors made it through the tough times to come out ahead—if they were able to leave their investments alone. Looking at the bigger picture, you can see that the Great Recession was a painful but ultimately temporary downturn.

Investors who held on through the recession regained all their losses (and then some)

A graph showing how the S&P 500 bounced back and continued gaining after losses during the Great Recession

This graph shows the month-end balances of a hypothetical $50,000 investment in the Standard & Poor's 500 Index between August 2007 and October 2015. Assumes reinvestment of earnings. Note that you can't invest directly in an index.

When it comes to investing, patience is a virtue

Even investors who can tune out market noise sometimes find it hard to avoid tinkering with a portfolio that doesn't seem to be growing as anticipated.

It makes sense—with most other products you purchase, you're right to be concerned if there are immediate issues. A car or an appliance that doesn't work the way you expected isn't likely to improve unless you fix it.

But investments aren't like other purchases. You should expect that some will do well, while others might take some time. That's why diversification is so important.

There's been extensive research showing that investors can't anticipate which specific market segments will perform well in the future. And investors who try are actually more likely to experience lower returns.

For example, here's what happened to investors in the 10 years ended in 2014.

The returns received by investors vs. returns earned by funds

This bar chart shows how much the average returns actually earned by investors lagged the published fund returns for a variety of stock and bond fund categories

The average difference is calculated based on Morningstar data for investor returns and fund returns. Morningstar Investor Return™ assumes that the change in a fund's total net assets during a given period is driven by both market returns and investor cash flow. To calculate investor return, the change in net assets is discounted by the fund's investment return to isolate the amount of the change driven by cash flow; then a proprietary model is used to calculate the rate of return that links the beginning net assets and the cash flow to the ending net assets. Sources: Morningstar and Vanguard calculations. Data cover the period from January 1, 2005, through December 31, 2014.

Read chart description

Why were investor returns so much lower than mutual fund returns? Because investors jumped into funds when they were already at a high mark—with lower returns in their future—and dumped funds when they were on the way down, without waiting for a rebound.

The right way to compare fund performance

Is there a way to tell if a fund is doing what it's supposed to be doing? Yes. All mutual funds and ETFs (exchange-traded funds) have a specified benchmark for you to compare against.

If your fund is an index fund, its benchmark will be the index that the fund tracks. But remember that an index itself doesn't have any costs, so an index fund will almost always lag the benchmark a little bit. If it's off by any more than the fund's expenses, it's worth asking why.

If your fund is an active fund, the fund manager will identify the most appropriate benchmark that the fund is trying to beat. If an active fund consistently lags its benchmark, that's a sign that you may want to look for a similar but more successful fund.

Mutual funds and ETFs are also assigned to peer groups by fund rating companies like Lipper. By comparing your fund's performance with that of its peer group (for example, U.S. growth funds), you can see whether there's a valid reason for concern.

Go in-depth ... Read our white paper exploring the success of "buy and hold" vs. "performance chasing." Which one gives investors better returns?


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REFERENCE CONTENT

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Market

The trading of a universe of investments, based on factors like supply and demand. For example, the "stock market" refers to the trading of stocks.

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The "Great Recession" was a scary time in the stock market

This graph shows that by the end of August 2008, an initial $50,000 investment in stocks in the S&P 500 Index made in August 2007 would have been worth about $44,400. By the end of February 2009, it would have been worth about $25,900.

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Investors who held on through the recession regained all their losses (and then some)

This graph shows that a $50,000 investment in the stocks in the S&P 500 Index made in August 2007 would have been worth only about $25,900 by the end of February 2009. By the end of April 2011, it would have been worth about $50,200. And by the end of October 2015, it would have been worth about $84,200.

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Diversification

The strategy of investing in multiple asset classes and among many securities in an attempt to lower overall investment risk.

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The returns received by investors vs. returns earned by funds

This graph shows how the returns published by funds compared with the average returns actually earned by investors. For U.S. stock funds, funds returned 7.51% but investors earned 6.94%. For emerging market stock funds, funds returned 7.62% but investors earned 5.20%. For sector stock funds, funds returned 7.15% but investors earned 5.94%. For high-yield bond funds, funds returned 6.31% but investors earned 4.30%. For emerging market bond funds, funds returned 6.70% but investors earned 3.68%.

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Returns

The profit you get from investing money. Over time, this profit is based mainly on the amount of risk associated with the investment. So, for example, less-risky investments like certificates of deposit (CDs) or savings accounts generally earn a low rate of return, and higher-risk investments like stocks generally earn a higher rate of return.

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Mutual fund

A type of investment that pools shareholder money and invests it in a variety of securities. Each investor owns shares of the fund and can buy or sell these shares at any time. Mutual funds are typically more diversified, low-cost, and convenient than investing in individual securities, and they're professionally managed.

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Portfolio

The sum total of your investments managed toward a specific goal.

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Performance

The measure of how much an investment has paid off, also known as return.

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ETF (exchange-traded fund)

A type of investment with characteristics of both mutual funds and individual stocks. ETFs are professionally managed and typically diversified, like mutual funds, but they can be bought and sold at any point during the trading day using straightforward or sophisticated strategies.

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Index

An unmanaged group of securities whose overall performance is used as a benchmark. An index may be broad or focus on one sector or type of security.