What it is
In investing, a benchmark is a standard or measure that can be used as a point of reference for an investment vehicle or portfolio. The asset allocation, risk and return are the usual aspects that are compared.
When pooled funds such as Unit Investment Trust Funds (UITFs) are created, a benchmark is set to allow investors to see how well the fund should be doing.
The benchmark is chosen according to the fund type and composition, and established indices are commonly chosen. For example, a fund that tracks the PSEi, or Philippine Stock Exchange Composite Index would use the PSEi as its benchmark.
In some cases, a fund would try to replicate its benchmark’s asset allocation to get the same returns.
What it means for you
If you want to understand the returns of an investment vehicle or learn what it should have in its assets, you should see what it has set as its benchmark. If its performance is better than that of its benchmark, that is a sign that it is being managed well.
Don’t forget that factors such as asset allocation can change for a benchmark and this change will probably happen also in the investment vehicles and portfolios that use it.