In his latest article: Trying To Beat The Market Is A Fool's Errand, Chuck Carnevale examines investing in the S&P 500 Index as compared to a basket of actively managed shares in various common stocks.
In Chuck's article he says:
Proponents of indexing as the best investment strategy seem to take great delight in reporting how the vast majority of professionally managed portfolios (mutual funds, separately managed accounts, hedge funds, ETFs, etc.) fail to outperform the S&P 500. Therefore, they argue, it is best not to even try. Investors should simply invest in index funds and forget about it.
Now while Chuck's article explores one aspect of investing and indexing, there are other voices out there who suggest that every investor-but especially Dividend Growth Investors-need to have their portfolio "benchmarked" by the S&P 500 Index and that if the DG investor is not beating the SP 500 Index, then the DG investment strategy is less effective than just pure Index investing.
In my own article: Dividend Growth Investing And Beating The S&P 500 Index, I made the following observation:
Lately, it seems that there are a lot of people who seem to have this notion that a portfolio is only as good as its performance against the metric of the S&P 500 index.
As a Dividend Growth Investor, I don't compare my results against the SP 500 index or any other index, for that matter. Why not? Well, when I was a mutual fund investor and had my money being managed by professional money managers, I found that there were not very many money managers that could consistently outperform the SP 500 index. It became apparent to me when I became an investor who purchased individual stocks, that I couldn't beat the SP 500 index on a consistent basis either.
Things Too Consider:
When you and I first decided to put money into the stock market, we had a catalyst moment that caused us to make the decision to put money at risk. Perhaps you just graduated from college and took you first job with a large corporation and someone from Human Resources told you about the company 401k plan and how it could fund your retirement years.
Whatever your catalyst moment was, there are hundreds of reasons why we decide to invest in the stock market. Each of us have already had that catalyst moment and that is why we are investors and everyone who does not currently invest in the market is going to have to have that catalyst moment in order to become a stock market investor.
And whether you knew it or not, that catalyst moment became your investment "goal."
While these ideas have been discussed over and over, I have never met anyone who looked up one day, slapped himself on the forehead and said:
"I want to beat the S&P 500 Index." Did you? Frankly, when I started investing, I didn't even know there was such a thing as the S&P 500 Index.
Likewise, I find it hard to believe that anyone had his catalyst moment and said:
"I am going to invest in stocks and in order to know that I am successful, I am going to use the S&P 500 Index as a benchmark to measure how well I am doing." That just never happened, folks.
Let's Talk About Goals:
Goals are a funny thing. If you have ever attended a management seminar, a leadership conference, or a time management class, then more than likely you have been introduced to a concept known as SMART Goals. They are: Specific, Measurable, Achievable, Relevant, and Timely.
Goals can fall into two different categories, however. They can become "activities" or they can become "outcomes." An example of where a goal becomes an activity is when someone says: "I am going to save 10% of my salary, every paycheck." That is an activity.
On the other hand, saying: "I am going to save 10% of my salary every paycheck and I am going to invest that money at an expected return of 6% a year, in order to achieve a total savings balance of $100k in X amount of years" would be an outcome based goal.
Do you see the difference? The "activity" goal is something that you are going to do. An "outcomes" based goal is something that you expect to happen as a result. An outcome based goal is the "end-game" in the goal setting process. It's where you want to end up, be it a certain dollar amount in the portfolio or an income amount generated by dividends.
What You Should Know:
I began investing in the stock market back in 1984. I had gone to work for Coca-Cola and on my first day at work, I had to sit down with the Human Resources people and fill out a lot of papers, relative to my employment there. When we got to the 401k paperwork, the HR guy explained to me that I could take a portion of my paycheck and defer that portion from current taxation. That money would be invested in a mutual fund choice that I could make and it could be invested in company stock as well. The advantage to investing in the company stock was two-fold. First, you could invest with no commission or expenses. Your investment was 100% invested, dollar for dollar. Second, you were going to purchase you KO shares at a discount price to market price at the time of your purchase.
When he showed me the pretty charts and graphs and explained that if I saved "X" dollars a year and increased that savings by "Y" percent each year as my salary increased, at the end of 30 years, I would have "Z" amount of money to use in my retirement.
To be honest with you, I did not have the proverbial "pot" as they say. I had been discharged from the Army a few years earlier. I had been hopping around from job to job, (not a reference to being an amputee), without any direction at all. Then Coke (NYSE:KO) came along.
So when this guy from Human Resources finished his pitch on the 401k I was all in. Hook, line, and sinker. In a moment I had arrived at my catalyst moment. I had a goal. I had a reason to begin investing in the stock market. I was going to save and invest enough money to become a millionaire in 30 years.
Now, wanting to be a millionaire in 30 years is a perfect example of a goal that an investor might have. It not only satisfies the SMART Goal metric, but it is an outcome based goal as well. Plain and simple.
What I Know:
Nowhere in my goal of amassing a million dollars is there anything that would suggest the need to beat the S&P 500 Index. The goal of amassing one million dollars is not contingent on beating the S&P 500 Index. That metric is totally irrelevant to the goal of amassing one million dollars in my portfolio.
Nowhere in setting this goal, is there the idea of using the S&P 500 Index as a benchmark to measure the "success" of my investments. The only benchmark that I need is a "time chart" that tells me where I should be, in terms of the amount of money that my portfolio is worth at a given point in time.
Again, that benchmarking of the S&P 500 Index is irrelevant to the goal of amassing one million dollars.
This might surprise some people. I want to make it crystal clear that if you happen to believe that you can consistently beat the S&P 500 Index and that activity has value to you, good for you.
If you are in the camp that you cannot possibly beat the S&P 500 Index, so you have chosen to just go ahead and invest in the S&P 500 Index, then I say, good for you.
If you decide that you want to use the S&P 500 Index as a benchmark for your own portfolio, then again, I am ok with that as well.
Where I have an issue is when someone tells me that these three things are goals that they have. I have an issue because I question the value of that kind of goal. For example, let's say you actually beat the S&P 500 every year. What is the outcome for you by achieving that metric?
If you decide to only invest in the S&P 500 Index, then I ask again, what is the expected outcome (goal) that you have by investing in the Index.
Finally, if you decide to use the S&P 500 Index as a benchmark, please explain to me how that is a "goal" and what is the expected outcome of that activity.
My initial catalyst moment that made me make the decision to begin investing in the stock market was that I wanted to become a millionaire by the time I was 55 years old (30 years from my beginning to invest in the stock market.)
Having achieved that goal by the time I was 45, I refined my goals for the future. I found that being a millionaire really didn't change much. I still drove a company car, lived in a pretty normal middle class house, and hung out with my friends on the weekends grilling and watching football on tv.
My goals changed and what became important to me was to create a source of income that would sustain me in retirement. So my goal became to invest in stocks that had a history of paying dividends and increasing those dividends on an annual basis. Those same stocks needed to meet a metric of growing those dividends by at least 6% a year. And stocks that became part of the portfolio would be held the long haul, with dividends being reinvested to take advantage of the compounding nature of dividend reinvestment.
Again, I can't seem to see why beating the S&P 500 Index or using the S&P 500 Index as a benchmark is relevant to my investment goal. But I would hazard to guess that someone is going to try and tell me exactly why I should.