A Vanguard study of over 2,000 active funds revealed a stark reality: even among the top quartile that survived and outperformed long-term, 95% still lagged their benchmark in at least five years out of the period studied. This proves that frequent underperformance is a normal feature of a winning strategy.
Most investors evaluate performance over a few years, but financial economist Ken French states it's 'crazy' to draw inferences from three, five, or even ten-year periods for an active fund. Shorter timeframes are heavily influenced by randomness and luck, leading to flawed investment decisions.
Calendar year results are arbitrary and can be misleading. A more robust method is to analyze rolling returns, which evaluate performance over fixed periods (e.g., five years) from many different starting points. This method reveals a strategy's true consistency by smoothing out short-term market noise.
After underperforming by 40 points in 1999, Barron's questioned Buffett's ability. Most investors grew fearful and sold, just before Berkshire Hathaway doubled over the next decade while the S&P 500 remained flat. This highlights the danger of following herd sentiment during periods of poor performance.