53) Why Equity Fund Performance Different From Benchmark?

53) Why Equity Fund Performance Different From Benchmark?

You may often notice that the actual fund performance is different than the benchmark.
Isn't it suppose to be the same?
Isn't the benchmark chosen to reflect investment objectives?

What is a 'Benchmark' by Investopedia

A benchmark is a standard against which the performance of a security, mutual fund or investment manager can be measured. Generally, broad market and market-segment stock and bond indexes are used for this purpose.

Why there are differences?
Most of the time, the actual fund performance perform better than the benchmark. The fund managers actively managed the funds to perform better. However, there are times when the actual fund performance is below the benchmark.

Here's a few possible reasons why the actual fund performance and benchmark may be different.
Let's take an example of a local Malaysia equity fund and the FBMKLCI as its benchmark.

a) Fund has different asset types
An equity fund has investment mostly into stocks. To diversify the risk, an equity fund normally have bonds and money market instruments. The FBMKLCI only have stocks. 

b) Fund invests into overseas
A local equity fund normally have some overseas investments. However, the FBMKLCI benchmark only has stocks in Malaysia.

c) Funds have cash and liquid assets
An equity fund normally have a small amount of cash and liquid assets. A new investment into the fund have cash flow in. While any fund redemption requires payment to be paid out within the stipulated time.

d) Funds components are dynamic and changed often
An equity fund may consists of around 50 to 60 different stocks. A benchmark only have specific stocks that made up the benchmark. For example, the FBMKLCI consists of 30 component stocks. So the equity fund have more stocks than the benchmark. 

e) Funds are actively managed
The fund managers will manage the fund to their best ability. They buy and sell the stocks, bonds and money market instruments. When the market is volatile, they normally trade more often. Stocks quantity changes often. At one time, a fund can have high investment of one company's stock. Later, all the stocks may be sold off completely. The Benchmark is not managed, but calculated from the prices of the component stocks with different weightage. A larger company may have higher weightage as compared to a smaller company.

Conclusion
The actual reasons are many, but you have some idea now. Basically the fund performance and benchmark are different because they are not exactly the same. Benchmark is used as a measuring tool.

Please note that the above graphs are for illustration purpose only. Past performance are not indication of future performance.

Please be reminded and be aware that all investments have risk. Do consult your professional investment and financial consultants.