A Better Way to Measure Portfolio Performance

I am tired of listening to managers and bloggers using the price growth of their securities as the measure of their portfolio performance.  I think it feeds into even more price-centric noise we have to filter out daily.  If you’re attempting to buy a company and not a stock, you should treat your investment portfolio like a holding company and analyze your performance as a company.  Since I like to focus on businesses with strong competitive advantages and predictable cash flows, I find measuring my portfolio’s total trailing twelve month free cash flow to be a better measure of my performance then watching “Mr. Market” wiggle around.  It’s pretty simple to keep track of in a spreadsheet and most importantly it keeps me from having irrational emotional reactions to my portfolio.

Follow the Money, Don’t Follow Opinion

Every month I update my portfolio and allow myself to look at the prices of all my investments.  The reason for this is I found myself up till recently checking my portfolio WAY too often, ( as mentioned in my article on why I’m a dopamine addict ) and I needed a way to prevent the movements of the market from affecting my investing process.  I still occasionally check the price for a stock I’m likely to buy or sell within the week, and obviously I don’t limit my intake of business fundamental information, but I do try to keep myself from knowing my portfolio’s market “performance” as I feel it’s not an accurate indicator of how my portfolio is doing.

During my monthly updates, I adjust the number of shares of each security I own and their trailing twelve month free cash flow per diluted share, then sum up my trailing twelve month free cash flow for my “holding company” for the trailing year.  At present I don’t figure in my cash position or my company’s cash position as I consider both free cash flow “growth drivers.”  A company with extra free cash flow can use that to buy back stock, or fund acquisitions or expansions, so a company with extra cash on the balance sheet has means to grow free cash flow faster.  Dividends and my extra cash also just mean that I have another way to grow my holding company’s free cash flow in the future.  I could use a multiple, say 15, to divide into extra cash and say that this cash would produce on average this free cash flow, but I prefer to leave it out and know that it will be a growth driver for free cash flow.  Geoff Gannon has a great article on why assets and cash flows should be thought of as interchangeable and this has helped me model some of my thinking around this.

Also, I’d love to use a company’s “owner earnings” ( i.e. separating the capital expenditures that are for maintenance, subtracting them from earnings, then adding back in depreciation and amortization ), but companies seldom report such details, so I stick to free cash flow.  Free cash is ultimately a great measure of what I’m getting back from the company.

One last note, for banks, I often *gasp* use earnings since free cash flow gets muddled up in their cash flow statements.  Banks make determining free cash a rather murky exercise that I haven’t perfected, so I stick with earnings. As usual, make sure you feel confident about using the earnings, since earnings can be played with a bit more easily than free cash flow, especially in banks. If you’re doing your research on banks ( see my four part series here, here, here, and here ), you should be fine using it.

Ultimately, when you’ve summed everything, you’re left with a really good determination of how your “holding company” is doing.  If you’re trying to buy great businesses at a good price and hold them as long as you can, you’ll be a better investor by focusing on the business fundamentals and ignoring the bi-polar nature of the market.

2 Responses to “A Better Way to Measure Portfolio Performance”

  1. Saj July 28, 2011 at 10:54 am #

    Good article. I agree with you in principal. Ideally, I’d like to be able to sum the whole balance sheet and earnings statement in the aggregate for my entire portfolio, but I don’t know a time-effective way to do that. Eventually there may be a web program available!

    • truelson July 29, 2011 at 2:56 pm #


      You’re right, it takes a little bit of time to do it by hand. Presently have about three coding projects on my plate, but maybe in a few months we’ll get to experiment with something like that. A web interface would definitely make my life easier, and I’d love anybody that made one. 🙂