BENCHMARKING YOUR INVESTMENTS

In this first inaugural issue of The Black Market Weekly I decided to choose Benchmarking as the first topic to write about, because it's such a vital part of an investing strategy that all investors should understand how to incorporate Benchmarking in every aspect of investing. Now even two weeks ago stocks were ripping, according my estimates up approximately 12% for the year, and poised to beat last years stellar returns of 16.3%, but after surveying the huge sell-off a week later, and all of a sudden the outlook doesn't look as bright. Some may say stocks investors took it on chin, with overall market down 4% as of close Friday, and up only 6.4% for the year. Ok enough with the figures for the moment. Question is how are your investments performing? Are your investments outperforming the indices? Do you know what indices mean? Are you meeting your investment goals? or do you know even if you've made a penny this year? These are pertinent questions, since it all relates to setting Investment Targets, and it doesn't matter where you park your money, there's a measurement out there to show you how you should be doing. So while we work on getting our investment goals straight this year, take a look at "What's Hot - Not" chart to see how the markets did last year.

WHY THE BLACK MARKET WEEKLY
Before I start talking about the topic Benchmarking, I want to quickly talk about why I chose to name my Blog "THE BLACK MARKET WEEKLY". According to most online reliable sources a "Black Market" is defined as "An illegal market, in which something is bought and sold outside of official government-sanctioned channels", "An underground or shadow economy", and so on. The obvious underlying theme is that it's a market where the participants are NOT playing fair or by the rules. Too many of you shrewd Investors that really sounds kinda like what's going on today in the Stock and Bond Market right?, at least I think so. Of course these markets are regulated, so neither of them are Black Markets, but what's not so obvious to the uninform or savvy investor is investment activity that was once clearly considered Black Market or illegal is now pervasive, reported on, and discussed every day, with regulators keenly aware of it, but RARELY taking meaningful action. I'm sure some of you have heard of Stock Option Back Dating, Insider Trading, and Pump & Dump, inadequate or inaccurate investment disclosures. However you probably have not heard of Deal Stabilization, Front Running, Soft Dollar Trading, Window Dressing, Short Selling manipulation, Low Bidding, or Churning. Most of this activity is clearly illegal, but some as the main "Players" like to say is unregulated, which is another way of saying is Cool. As a matter a fact it's so cool, that this cool activity often operates in it's own quasi-market call the "Grey Market". Question is where does the Grey Market exist? I would say it exist on the fringes of the Real Market where "Black Market" begins. Hence the title of my Blog The Black Market Weekly. It's not about illegal investing activity, but actually a metaphor about providing investors insightful investment information, advice and strategies in a simple and straight forward way.

BENCHMARKING
The first thing you should think about before you invest a single dollar in any Stock, Bond or Mutual Fund is how long do you want to invest your money for (Investment Horizon), how much money do you want to earn on your investment (Investment Return), and what you want to invest your money in (Investment Risk) – not necessarily in that order. Basically you want to think like the Investment Pros, because this is exactly how they invest, and it’s simply call Benchmarking, and it’s the tool they use to measure their investment performance. After all how can you tell if your investment is doing well if you have no way of measuring it? If last year your Foreign Stock Investments were up 9%, while it's index was up 29% (see Emerging Mkts Stocks on chart) then you did really poor compared to the market (and that's putting it nicely). Until you start benchmarking, or more commonly known as setting Investment Targets, you should keep your money in your savings account.

What Do You Benchmark
Now we’ve got that straight how do you go about establishing Investment Targets? Do set Targets for both individual investments (stocks, bonds, mutual funds) and entire portfolios? Can you utilize benchmarking strategies with an Investment Advisor, and can benchmarking be utilized on other investments such as Real Estate, or Private Business? The answer to all the questions is Yes! After all it’s what the Pros do everyday. Rarely a trade is made by a major investor without them first taken into careful consideration the relative Return on their investment, coined in a fancy term “Relative Value”. As a matter a fact one of the most influential and widely quoted economic & financial research reports in the Investment community is called Relative Value. It’s produced weekly by Lehman Brothers, and you’ll have to pay big bucks for a chance to read it. Surprisingly you know what much of it is about, Benchmarking, because the Pros have got to know how they’re performing relative to Lehman’s Benchmarks. Miss Lehman’s benchmarks too many times and they’re fired!

First Benchmark to Consider – Uncle Sam
Lucky for you, you get to set your own Benchmarks, so if you set them really low and exceed them often, you’ll look like a pro, but also like an idiot. So the idea here is to set realistic benchmarks. What’s Realistic? It depends on what you want to invest in, and for how long. I suggest you first (and always) look at what Uncle Sam (the U.S. Government) is paying you. Why?, because this investment is Guaranteed to pay you back, it’s what the Pros call a “Risk Free Investment”, and the money (interest) you receive is your “Risk Free Return” (RFR). To find this RFR the Pros focus on the Treasury Market, where Treasuries (or US Debt) is priced.

e.g.
Say you want to invest $500,000 and for 5yrs, then the first thing you should say is, “What is Uncle Sam paying me”
Answer - According to the Wall Street Journal about 4.57% (not including commission fees) on a 5yr investment in US Treasury bonds. (Per July 27 ‘07 WSJ – Bond Rates & Credit Mkts Section)
So at a minimum you should be seeking at least a 4.57% return on ANY investment you make over that 5yr investment horizon. It’s your Benchmark, anything lower than that “theoretically” meant you wasted your time (and money) investing elsewhere.

Why is knowing what the RFR is very important?, because any other investment over that length of time (say 5yrs) has to promise you more than a 4.57% return. So any CD, Agency, Corporate, Mortgage, or Municipal Bond (Tax Equivalent Yld basis), Annuity, Real Estate or Equity Link investment must (at inception) suggest a return (or Yield) more than RFR, because all these investment are more RISKY then U.S. Government securities.
KNOW THIS: Simply put, if a non US Government investment, over a fix investment period (say 5yrs) Yields less than the RFR (your Benchmark) then, then it’s in all likelihood a poor investment, and should NOT be made.

The Stock Market Has History, but Does History Have You?
At a quick glance any serious Investor should use a RFR method as a basis for Investing. As a matter a fact it use to be the only investment many of your parents and grandparents made – I’m sure you’ve heard of US Savings Bonds right? Yep, they were much smarter than you and I back then, but the Stock Market is where the excitement is, it’s where the rich get wealthy, and two dollars can easily become four. Sounds a little like Vegas? Well in some sense it is, but if you take the right approach to Investing in stocks, instead of being a gambler you’ll be an Investor, but you’ve got start with Investment goals. It’s in the Stock (Equity) Markets where Benchmarking is crucial. Now to develop the proper Benchmark for stocks an Apples to Apples strategy must be created, and I’m not referring to Apple Computer (Appl). I would suggest a simple strategy of using Historical Information in tandem with setting realistic Investment Goals (Returns) when investing in Equity securities (Stocks), but before I explain that any further, there’s a caveat: When it comes to investing in the stock market there’s a famous saying that all investors should know, “Pass performance is not indicative of Future performance”.
It’s a line burnt Investors hear a lot from their Investment Rep, after they loss a chunck in the market. “Hey the stock did really well in the past, I didn’t know it was gonna tank!”
You’ve got to make sure that resonates with you, - the past is nice but the future is what matters.

Risk Appetite is Something Really only You can Chew
First you’ve got to set your “Risk Appetite”, which is how much risk you’re willing to take. Do you want to invest in Safe, Moderate, Risky, or Very Risky Stocks (aka Asset Class). Only you can make that determination, I won’t suggest a strategy for you – they’re dozens of books about that, but the consensus is that the average investor spreads their money across the spectrum [which if equally weighted is a more riskier than a Moderate Stock portfolio, but less riskier than a Very Risky portfolio of Stocks obviously]. Once you’ve made that determination set targets for each individual stock (or the entire portfolio), which ever is easier. Logic is a target for each stock equates to a target (Benchmark) for the entire portfolio, right. I suggest you use Percentages to set Investment Targets rather than a fix price, since a percentage figure can be applied to any stock, or any type of investment, where as a single fix price Target can’t be applied to every stock or investment. Again, to reiterate this investment target is basically how much money do you want make on your investment (or not lose). It’s what I previously call your Yield/ Return on Investment. Really simple calculation to figure out the Return is like this:
Eg.
Say you’re goal is earn 10% return (Yield) on your investment in Pepsi (PEP)
Assume you can buy Pepsi stock at $68 p/shr
Then 10% return on Pepsi = $68 * .10 or $6.80
Therefore Pepsi price target is $74.80 ----> [ $68 + $6.80]
So if you bought 100 shares of Pepsi, your return would be $680 or 10% of your overall investment, not bad. That’s only if you sell at $74.80. If you don’t and the stock rises, then you make more than 10%, however if it drops you’re below your 10% goal. [ of course don’t forget the trade commissions, nothing’s free ]

What’s important is that you set realistic expectations, because depending on the stock it can take 5mins or 5yrs to reach your investment target. It’s all dependent on what the pros call the stocks Volatility. Keeping it simple, the more volatile a stock (like Google, GOOG) the more likely it’s price will have huge swings up & down. Of course the opposite is true for less volatile stocks (like AT&T, T). This is important because the natural question is, for a volatile stock how do I set my price target? I suggest you set a target price of equal percentage gain or loss ( eg. +10% / -10%), with the rationale being you sell the stock once it earns more than your set target, and you prepare to sell your stock if you believe the stock will continue to fall significantly below your set loss threshold ( in this case 10%). The rationale for the latter being that if the stock rebounds back up and you didn’t sell, you’ve not loss as much or anything at all compared to if you did sell. The commonsense reason why you set target thresholds on the upside (or positive side) for volatile stocks, is that if the price of the stock falls again to a level you’re comfortable with re-investing, you can buy the stock again, using the same strategy over, and over, and over. It’s exactly what the pros do. Think about a situation where you utilize this strategy three times, and each time you made 10%. Then in total you would’ve actually had a 30% return on your investment, but don’t get to excited it’s much more difficult to do than I’m making it seem. Stick with the basics; after all I did say it can have huge swings to the downside also right?
How about low volatility stocks, what strategy should be set for those? I recommend that you use the same strategy of establishing an equal percentage gain or loss target price (eg. +10% / -10%). The only difference being that you outright sell your stock if it drops to or below your loss threshold. Rationale is that a low volatility stock is not suppose to have significant volatility, so if it has high negative volatility, then trust me, you want to bail out of that stock as soon as possible, unless it was caused by “macro events” (i.e. systemic to the entire market), likelihood is nothing good will happen anytime soon.
Again knowing when to sell is really important, it’s one of the biggest lapses in judgment I see many investors make. Why, because everyone is naturally driven by greed, and blinded by excitement.

Dissecting Your Portfolio Shouldn’t Be Painful
Today’s Investors are very fortunate, because they’re a bunch of Investment websites that have created lot’s of cool amazing features that allow you to analyze your overall portfolio’s performance [I’ll mention a few later]. Yeah, yeah unfortunately you’ve got to analyze it, but it’s what I’ve been talking about all along, Analyzing your Investments, but it’s not always about numbers. Case in point, before you jump online and click away to see how the market’s performing you’ve got to do breakout your portfolio in these two simple steps:

1. Segment your portfolio into investment Asset Classes, such as Cash, Bonds, Stocks and Mutual Funds [ some sites, like Fidelity.com probably does this automatically for you ]
2. Breakdown each Asset Class further into various Sectors. For Example breaking down your Equity investments : Technology, Financials, Pharmaceuticals, Energy, Bio-Tech, Media, Real Estate, Transportation Sectors.

Performing this segmentation is ideal, since it allows you to focus exactly on specific Sectors / Industries, because activity in the market is frequently isolated, and entire sectors rise and fall on the news of a single or few stocks (often known as the Bellweathers, e.g. : IBM, AT&T, Exxon, Microsoft, GE, Google, Pfizer, Citibank, etc).