Benchmark Comparison: Is Your Trading Better Than Buying and Holding?

An account return alone tells you very little. To know whether +8% was good, you need to know what would have happened without trading during the same period. Rising markets can reward simply buying and waiting. A benchmark reveals what your trading actually added. Here is how to choose and calculate it.

One Return Figure Cannot Tell You Whether You Did Well

Suppose a quarterly review shows +8%. Without knowing how the market moved, you cannot judge that result. In a bull market, buying almost any coin and forgetting it can produce profit. To assess what trading added, compare it with leaving the same money invested without intervention.

This is uncomfortable because the account grew while the conclusion is a shortfall. But if the purpose is to outperform doing nothing, rather than merely grow money by any amount, a return without a comparison is not a report card.

How to Choose a Benchmark

The comparison need not be complicated. It has three conditions.

The third condition is the benchmark's core. Only an untouched position reveals the cost or benefit of intervention. The nature of buy-and-hold is explained in long-term holding strategies; its difference from accumulating through installments is covered in dollar-cost averaging.

Two Adjustments for a Fair Comparison

Comparing raw returns alone can be unfairly harsh or generous. Consider two points.

First, include falling markets. Trading can benefit from spending time in cash during declines. Comparing only a rising interval makes trading look consistently worse, while comparing only a decline makes it look consistently better.

Looking at only one quarter would produce the opposite conclusion. Linking periods uses compounding, and evaluating the account's path is discussed in equity curves.

Second, the benchmark incurs almost no fees. Buy-and-hold makes one round trip, while active trading incurs costs with every trade. The gap is larger than many expect.

That 24-percentage-point hurdle must be recovered each year merely to match the benchmark. Formulas for turnover turning into costs appear in round-trip trading costs and trading frequency and fee drag. This often explains a large share of negative excess returns.

Returns Alone Show Only Half the Picture

The same +10% ending return means something very different after a 5% temporary decline versus a 40% decline. Record maximum drawdown (MDD) alongside return.

A higher ratio means earning more for the same discomfort. However, low drawdown may reflect barely investing any money rather than skill. Also record the average percentage of capital exposed to the market. See maximum drawdown for definitions and recovery requirements, and profit factor for the ratio of gross profits to gross losses.

Do Not Judge from One Comparison

One quarter is one sample. Concluding that your trading beats the market after a lucky quarter can be overturned by the next.

Trade sample size explains how many observations help make figures reliable. Comparing monthly but judging quarterly is practical. Monthly judgments tend to change every month.

Options When Results Are Poor

There are three responses to persistently negative excess returns. “Try harder” is not among them.

Records support every option. Keeping a trading journal explains what to record for later comparisons, and expectancy and R-multiples explains average contribution per trade.

Recap

A return without a benchmark is merely a number, not a performance assessment. Adding a benchmark turns the feeling that you did well this month into a calculable statement.