Chasing winners is a frequent investing habit which, more often than not, results in disappointment. As Morningstar puts it, “investors often suffer from poor timing and poor planning … many chase past performance and end up buying funds too late or selling too soon.”
So why are yesterday’s winners so frequently tomorrow’s disappointments?
Historical performance is useful for identifying who outperformed in the past. Unfortunately, past performance often tells us very little about the future. One major reason is that the success of many strategies is market specific – it is unlikely that Fund “A” outperforms Fund “B” in all market environments, so choosing the winner between Fund A and Fund B will have as much to do with predicting the market as it does with kicking the tires on the funds themselves.
Markets Do Not Forecast, Nor Do They Repeat
I’m an investment professional, and I am unable to predict how the market will end next year or what path it will take. I am going to go out on a limb and posit that my peers in the industry don’t know either – though many will provide their forecast and some will be retroactively “right.” I also do not know which strategy will perform best and which manager will “manage” to that strategy best, and nor do my peers.
The last few years in the market have been rather unique. We have seen interest rates go negative globally. We have seen a period of unusually low volatility with strong market performance perhaps due to an unusual amount of support from the Fed. Perhaps we are going into a new market environment now (but then again, perhaps not – who knows?).
Will strategies that have performed well over recent historical markets (e.g., over the last 3 years) remain performance leaders going forward?
Doing this “last few years” exercise demonstrates just how difficult it is to predict winners. If we measure winners between the time periods of 2007 – 2009, 2010 – 2012, and 2013 to 2015, we will come away with different sets of winners. What does that tell us about who to invest in for 2016 to 2018? Not very much.
For example, Tactical strategies as a group performed very well in some recent years and then did the opposite. The same goes for managed futures. Does this make them good, bad or middling strategies? No, not necessarily. It depends on the market environment.