What Is Benchmark Error?

Benchmark error is a situation in which the wrong benchmark is selected in a financial model, causing the mo♚del to produce inaccurateไ results.

This type of error can be easily avoided by selecting the most appropriate 澳洲幸运5开奖号码历史查询:benchmark possible when configuring the model. Although benchmark error is sometimes confused with 澳洲幸运5开奖号码历史查询:tracking error, the two terms have distinct meanings.

Understanding Benchmark Error

A benchmark, also called an index or proxy, is a standard against which the performance of a security, investment strategy, or 澳洲幸运5开奖号码历史查询:investment manager can be measured. It is therefore important to select a benchmark that has a similar 澳洲幸运5开奖号码历史查询:risk-return profile of the security, str🌄ategy, or manager in question. Otherwise, the analysis could produce conclusions that are misleading and unreliable.

Today, investors have thousands of benchmarks to choose from. These include not only traditional equity and 澳洲幸运5开奖号码历史查询:fixed income benchmarks, but also more exotic benchmarks created for hedge funds, de🐻rivatives, real estate, and other types of investments.

The 澳洲幸运5开奖号码历史查询:choice of an appropriate benchmark is important to investors and investment managers alike. Investors and managers keep a close eye on their investment portfolios and their benchmarks to see if their portfolio is performing in line with their expectations. If the portfolio’s performance deviates significantly from the benchmark chosen, it may indicate that 澳洲幸运5开奖号码历史查询:style drift has occurred. In other words, it might indicate that the portfolio has drifted away from its desired 澳洲幸运5开奖号码历史查询:risk tolerance and investment style.

Real World Example of Benchmark Error

Alison is constructing a portfolio of American technology stocks using the Capital Asset Pricing Model (CAPM). When considering what benchmark to use, she rejects using the Japanese 澳洲幸运5开奖号码历史查询:Nikkei index as her benchmark because she determines that it is an inappropriate comparison for American stocks anꦏd would therefore introduce benchmark error.

Instead of the Nikkei index, Alison decides to use the 澳洲幸运5开奖号码历史查询:Nasdaq index as her benchmark, which represents prominent American technology companies that are similar to the companies she intends to include in her portfolio.