The Benchmarks You Should Strive to Beat with Your Stock Trading System

The following is adapted from Automated Stock Trading Systems by Laurens Bensdorp.

As a trader, you may make some profit and start to feel pretty good about your strategy. Then the profit stalls or you experience a long drawdown, or you hear from a friend who is doing even better, and doubt creeps in:

Do you really know what you’re doing? Is your strategy working?

That doubt will infect your decisions. Where before you executed trades without hesitation, you’ll begin to second-guess. Though your strategy could very well be working, you’ll start to abandon it at key moments.

Trading is a long-haul game, and consistency is key. To succeed, you must be able to trust your strategy and execute it with confidence. By comparing your results to a benchmark, you can evaluate the effectiveness of your trading system and either build confidence or identify a need for improvement. Let’s look at two different benchmarks you should strive to beat with your trading system.

The S&P 500

One of the most common benchmarks to use is the S&P 500, which measures the stock performance of 500 large-cap companies in the United States. In tracking the performance of the biggest companies, the S&P 500 is a good representation of the overall stock market’s performance, which is what makes it a good benchmark.

Here’s how the S&P performed from January 2, 1995, to July 24, 2019:

• CAGR: 8.02%
• Maximum drawdown: 56.47% 
• Longest drawdown: 86.1 months 
• Annualized volatility: 18.67% 
• Sharpe: 0.43
• MAR: 0.14
• Total return: 562.51%

Some traders, when they want to evaluate their strategy, look only at the compound annual growth rate (CAGR). They’ve likely heard before that you should be able to expect an average of 8 percent returns, and as long as they are near or above that, they’re happy.

CAGR is indeed an important metric, but it’s only one measure of an effective trading system. You must also consider the drawdown.


You must be comfortable with some drawdown, as the truth is, in order to make money you need to be willing to risk money, and there are times when you will lose money. However, drawdowns that are too high or lasts too long can cause traders to drop out of the market entirely, at one of the worst points to do so.

Let’s look at the S&P 500 as an example. As you can see, a buy-and-hold strategy in the S&P 500 does in fact make money, with a CAGR of 8 percent from January 1995 to July 2019. However, the price you had to pay to attain that growth rate was a 56 percent maximum drawdown. In other words, during that time period, you would lose, on paper, more than half of your money. Moreover, you were drawn down for eighty-six months—that’s more than seven years.

Let’s consider that for a moment. Who would like to be in a drawdown for seven years? Being in a drawdown position for that long can cause enormous financial pain. We saw this after the 2008 crisis. People who thought they could retire instead had to keep working. People who had retired tried to go back to work if they could find a job. People who were still working wondered if they could ever retire. The pain wasn’t just financial, it was deeply psychological.

That’s a lot of pain for an 8 percent average annual return.

Now let’s look at a second benchmark, the performance of one of the most famous and richest men on the planet: Warren Buffett.

Berkshire Hathaway
Here’s how Buffett’s Berkshire Hathaway performed from May 9, 1996–July 24, 2019:

• CAGR: 9.87%
• Maximum Drawdown: 54.57%
• Longest Drawdown: 64.9 months
• Annualized Volatility: 23.01%
• Sharpe: 0.43
• MAR: 0.18
• Total Return: 791.07%

Berkshire Hathaway may be the most famous conglomerate in the world. We hear that Warren Buffett is the best stock trader alive, and looking at the numbers, Berkshire Hathaway’s performance does beat the S&P 500 in nearly every key metric.

There’s no doubt that Buffett has been very successful, especially as far as net returns—but a lot of that is because he has been in the game for so long. He is enjoying the magic of compound interest. His performance is better than the S&P 500’s, but from 1996 to 2019, he had two drawdowns of half his principal that lasted for more than five years. If you had bought Berkshire Hathaway in the fall of 2008, straightaway you’d have a 53 percent drawdown.

Who has the stomach for that? Most people would say, “This guy has lost his touch, I’m out.” Of course, it came back, but that’s because Buffett has enormous patience and is willing to wait. He has a long trading strategy. Most people won’t stay in the game when they lose half their money, especially for a roughly 10 percent return.

Traders like Buffett get a lot of publicity when they do well, but the negative side of their results is much less well known. As much as anything, they have a willingness to stay in the game when most traders would call it quits. The volatility of their results is not always sustainable for some traders, so be sure to consider this when comparing the results of your own trading strategy.

Is Your Trading Strategy Working?

Every year, compare the results of your trading strategy to these two benchmarks. There can be a lot of variability of results in the short term, so focus on the long term. Over time, are you consistently beating these benchmarks?

If not, your strategy isn’t working. You’re probably not making as much money as you could be, and you might be taking on more risk than you should. Reevaluate your strategy, and figure out what needs to change for your performance to improve.

If you are consistently beating these benchmarks, good work—keep doing what you’re doing!

It’s important to remember that the market is always changing, and the future will not look like the past. What works today might not work tomorrow, so regularly check back in with these benchmarks to evaluate your strategy. In this way, you can build the trust you need to execute with confidence.

For more advice on creating an effective trading strategy, you can find Automated Stock Trading Systems on Amazon.

Laurens Bensdorp is an expert at combining multiple non-correlating trading strategies to achieve a high risk-adjusted return regardless of what the market does. He shares that knowledge with a group of brilliant and dedicated students in the exclusive Elite Mentoring Program that’s part of his Trading MasterySchool, of which he is the founder and CEO. What Laurens has found is that teaching has helped him exponentially grow his skills as a trader. Author of the bestselling book The 30-Minute Stock Trader, Laurens has lived in eleven different countries and travels the world as he pleases. He currently resides in Spain with his beloved wife and children.