The Best and Worst Thing About Investing

Past performance in particular can sound a plausible basis upon which to form an opinion. This is because we are programmed to recognise patterns in nature and to extrapolate what we believe we have observed. However, studies have shown that there is a high degree of randomness in relative investment returns and that to be statistically significant, a performance record should be intact for nearly 15 years. Few investors meet this criterion. Fewer still meet this requirement and have not experienced other changes which have a direct impact on future performance, such as staff turnover or growth in assets under management which can affect portfolio construction. Consequently, we strongly believe that – considered in isolation – past performance is a poor basis for assessing investment skill.

Josh here – in other words…

Excess returns can show up anywhere, in any portfolio, and are randomly achieved in aggregate:

Any schmuck can hang with the pros, for a long time, and beat a skilled investor for years before his information disadvantage becomes apparent. And the skilled managers are very capable of underperformance as well, Towers Watson notes that even Warren Buffett recorded two three-year rolling periods of negative relative-performance, despite his 45-year marathon track record of outperformance:

And finally, we are all, in the end, victims of our own success. Identifying a manager with durable skill and a sustainable investing process only assures one thing – that others will discover that manager as well and pour their dollars in. And then, like hearing your favorite indie band on Top 40 Radio, you’re totally grossed out and uncomfortable. And with good reason – your alpha is now dust in the wind. Nothing ruins an outperforming investor or an indie rock band like mass appeal:

After seeing these charts and this evidence of futility, you might be asking yourself the following: If anyone can win and anyone can lose at any time in the markets, why bother trying at all?

Fair question. But I submit to you that successful investing is a lifetime pursuit, and in the end, it’s the pursuit itself that offers the rewards along the way. The destination was never the thing – most of us aren’t meant to end up as Peter Lynch or Warren Buffett. No, it was what you learned on the way there that made all the difference. As the poet C.P. Cavafy reminds us:

Ithaka gave you the marvelous journey.
Without her you would not have set out.

A lifetime of outperforming the markets is unattainable for most. But a lifetime of self-improvement and the acquisition of skill and knowledge – that’s available for anyone who’s willing to go for it.

Chart Source:

Equity Investing – Insights Into a Better Portfolio (Towers Watson)

Read Also:

Ithaka (TRB)