Proper way to index peer groups
What is the proper way to index peer groups when analyzing performance over time / returns?
The two methods I’ve seen are 1) Equal-weight portfolio on Day 1 of analysis and then just calculate the cumulative return of that portfolio over time. Essentially, you’d be taking the average cumulative return of the portfolio over time.
2) Equal-weight portfolio with daily rebalancing. So essentially, you would compound average daily returns across your peer group over time.
These two methods yield vastly different returns for the same peer group since some peers’ performance will have a greater effect on the index with Method 1 in later periods.
Any insight would be appreciated
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