Benchmarks and comparing performance

A return only becomes a judgement when you hold it against the right benchmark, so Unit 11 is really about choosing yardsticks and using them fairly. A benchmark is simply the index a fund is measured against, a large-cap fund against a large-cap index, a gilt fund against a government-securities index. The first rule is which version of the index to use: funds are compared against a Total Return Index (TRI), which assumes dividends are reinvested, because the fund itself earns and reinvests income; comparing it against a price-only index would flatter it unfairly.

SEBI has tightened this into a two-tier system. The first-tier benchmark reflects the scheme’s broad category (so every large-cap fund is judged against the same category yardstick), while the second-tier benchmark reflects the fund manager’s specific strategy or style within that category. Against these, what matters is relative return, the fund’s return compared with its benchmark. A 13% return sounds fine until you learn the benchmark did 15%; on a relative basis the fund lagged, and beating the benchmark after costs is the whole case for active management.

Two disciplines keep the comparison honest. Compare like with like, only against the fund’s own category and benchmark, never a debt fund against an equity index. And treat peer rankings with care: a top rank in one period says little about the next, so what you want is a fund that beats its benchmark consistently across many periods, not one that spiked once. Read performance this way and you are doing precisely what the exam, and a careful investor, expects.