A discussion that might come up at the kitchen table while watching CNBC, Bloomberg or Fox Business on the TV is, “how’d you do with your investments in 2021”? Usually after that it’s a comparison of absolute numbers, meaning statements like “I made 25%”, “I was down 15%”, or “I made 10%” etc., might be thrown around.
How Do You Compare to Other Investors?
First, the most common misunderstanding regarding performance returns are, it’s a relative number not an absolute number when comparing your returns to other portfolios. For you, yes it’s an absolute number if you have $100,000 and with a 10% return you end up with $110,000. But comparing that to another person’s return can be problematic. For example, the person who “made” 25% may be invested in a portfolio of fairly aggressive stocks. Also, what the
person with a 25% return probably forgot to mention is they experienced a very sharp decline when the market corrected early in 2020. Compare this with the person who above stated they
made 15% and was likely invested in a much more conservative portfolio. Immediately we should note that these two returns are not comparable due to the fact that the individual who earned a 25% return took on a tremendous amount of market risk and possibly specific stock risk. The person who earned a 10% return took on much less market risk via a fund that exhibits much lower volatility, therefore returns are relatively low.
We’ll Tailor Your Investments
So here, we must first stress one of the first axioms of investing, “risk = returns,” and over the long-term, greater risk in a portfolio is typically associated with higher returns.