The Basics: Portfolio Performance

We’ve all been there. You open your monthly or quarterly statement, glance at the pie chart, leaf through the pages, and look for the bold number – return. In a single number, you can get a sense of where things stand and how things have gone for your account in recent months and years. While this can be exciting (or disheartening), we encourage our clients to take a deeper dive: understand the constituent elements, contextualize against comparable indices, and consider the time period(s) in question.

The Elements of Total Return

There are two core elements of total return: capital appreciation and income.

Capital Appreciation refers to the change in value of your investment holdings. For example, assume you buy ABC stock on the 1st of the month for $100/share. On the last day of the month, the price has increased to $110/share. In this case, ABC stock has enjoyed 10% in capital appreciation. The same principle can be applied to an entire portfolio of holdings, with a weighted average being calculated based on the relative growth and size of each holding. Importantly – this door swings both ways. Capital appreciation can just as easily manifest as capital depreciation – investments losing value during the time period in question.

Income, the second element of total return, is made up of dividends, bond income, interest from CDs/money markets, etc. Sometimes referred to as yield, portfolio income is often regarded as the more stable, predictable element of total return. In a negative market environment, such income provides a ballast to the more volatile, unpredictable movements of its price performance counterpart.

Taken together, the capital appreciation and income flows experienced during a given period represent total return.

Other Considerations

While knowing how performance is determined, there are other important, contextual factors to bear in mind.

• Gross or Net: Is the performance you’re reading cited gross of (before) or net of (after) fees? Investors pay fees in a variety of ways, depending on the vehicle in question. Knowing if your returns reflect such fees will give you a clearer idea of absolute outcomes.
• Money In, Money Out: Periodic contributions to or withdrawals from an account can skew performance measures. There are special calculations to address this issue; portfolio return can be figured to omit such flows (time-weighted performance) or include them (dollar-weighted performance).
• Context is Everything: While knowing your account is “up 10%” may feel good, it is important to evaluate portfolio returns in the context of broader capital markets. There are a multitude of market indexes and proxies that can be used as benchmarks for each asset class of your portfolio: stocks, bonds, cash, alternatives, etc. As an example, comparing the performance of your stocks to the S&P 500 or Russell 3000 indexes can help you to better understand your relative performance – i.e., how your investments fared as compared to a representative index. A blend of benchmarks can be used to create an account-level benchmark that is consistent with the target asset mix of your account.

The Bottom Line

When it comes to portfolio returns, there are plenty of variables to consider. We consider it a priority to help our clients understand the numbers in front of them – how they are derived, whether fees are reflected, and how the benchmarks behaved. Taking some extra time to examine your statement could lead to novel questions, interesting conversations, and a deeper understanding of investment mechanics.