Investment clubs

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23. Performance measurement

One of the areas clubs and investors should not overlook is the importance of accurate performance measurement. In other words, measuring how well your investments are doing compared to each other and compared to the market as a whole.

1. Measure the whole performance

   Remember that the 'total return' of a share consists of two things: the income you receive in dividends, and the capital growth that comes with an increase in the share price.

   If you only take account of capital growth, your investing will naturally lean towards low yield shares - those that pay small or low dividends - and miss out on the benefits of receiving and reinvesting dividends.

   So always calculate total return.

2. Take timing into account

   When calculating total return you need to take into account the 'time value of money'. This is an easy concept with a grand name. It simply refers to the fact that £100 received today is worth more than £100 received in a year's time, because if you get £100 today you can invest it and in a year's time it will have become, say, £105.

   Applying this principle to shares - an investment that produces income and capital growth quickly is a better investment than another one which produces the same return more slowly.

   When measuring the performance of different shares in your club's portfolio, the treasurer should keep a record of each share showing its buying costs, dividends received and potential selling proceeds. Then, using a method called 'Discounted Cash Flow' (DCF,) he discounts these returns for time, and ends up with a single percentage figure representing the annualised performance of the share.

   The main value of DCF is that it enables you to compare the performance of each share on a like-by-like basis. If the DCF percentage of one share is 20.46%, that is better than any share with a lower figure and worse than any with a higher figure. Essentially, it involves discounting (i.e. reducing) the value of future earnings to represent their value now.

3. Benchmarking

   The question of whether you have done well or badly in the stock market can really only be answered by comparing your returns with the market average, or 'benchmark indices'. It's not the absolute performance that counts, it's the relative performance:

   • if you achieve a total return of 6% on your portfolio, and the market average is 11%, you haven't done very well
   • if you achieve a total return of 3% on your portfolio, and the market average is -4%, you have done well.

   To remind members of this point, one of the useful things that club treasurers can do is present monthly statistics showing how well the portfolio has done compared with, say, the average unit trust. Click here for an example of the kind of benchmark report that the Treasurer might produce.

1. What is an investment club? 2. A simple explanation of how it works 3. Why join an investment club? 4. Deciding on your aims 5. Joining an existing club 6. Preparing to launch a new investment club 7. The draft constitution and rules 8. Drafting the investment strategy 9. Example of an investment strategy 10. Attracting members to your club 11. Preparing for the inaugural meeting 12. The inaugural meeting - appointment of officers 13. The inaugural meeting - key decisions 14. Things to do after the inaugural meeting 15. Starting the processes 16. Running the first meeting 17. Regular meetings - the key to success 18. The cash account 19. The capital account 20. The asset register 21. The annual general meeting 22. Tax 23. Performance measurement 24. Dealing with a member leaving 25. Conclusion

• ProShare Investment Clubs Looseleaf Manual
• The Motley Fool Guide to Investment Clubs
• The Company of Successful Investors