Press pause, not cancel: Patience is key for active investing

November 16, 2020

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"The investor's chief problem—even his worst enemy—is likely to be himself."–Benjamin Graham

One of the attractive benefits of passive investing is you know what you're going to get—the benchmark index's return, marginally offset by operating costs and tracking error. If returns plummet, your index fund will bounce back if the market (or relevant index) revives.

On the other hand, those with the risk tolerance and conviction to go with active strategies can be rewarded with returns that exceed the relevant benchmark. But a recent Vanguard research paper shows that you may need to exercise great patience to outlast the inevitable periods of underperformance.

Even outperformers lose their mojo

The paper, Patience With Active Performance Cyclicality: It's Harder Than You Think, looks at active equity funds over a 25-year period (1995–2019) that had at least a 10-year record. Among those that outperformed their relevant style benchmarks, 60% of them underperformed their benchmarks at some point by at least 20 percentage points.

Most outperforming equity funds had drawdowns worse than –20%

Notes: We evaluated all U.S.-domiciled, Morningstar nine-style-box U.S. active equity, emerging markets, and developed market foreign funds with a minimum of 10 years of performance data over the period from January 1, 1995, to December 31, 2019, relative to their style benchmark and identified all net outperforming funds. We calculated the magnitude of every drawdown of each fund over the sample period relative to its style benchmark and median peer, and used each outperforming fund's worst drawdown in magnitude.

Past performance is no guarantee of future returns.

Source: Vanguard calculations using Morningstar data.

Perhaps worse than the magnitude is the frequency and duration of these drawdowns. (The drawdown period is the length of time that a portfolio declines in value relative to a benchmark, measured from the peak to the trough and back to the peak level where the decline began.) Analysis of five-year periods shows almost half of all outperforming funds experienced drawdowns at least 40% of the time. Over one- and three-year evaluation periods, the percentage of funds jumped to 76% and 59%, respectively.

Most outperforming funds underperform with surprising frequency

Source: The chart uses the same dataset as described for the first chart and in the Vanguard paper.

The next chart might be the most eye-opening. Almost three-quarters of all outperforming funds had drawdowns relative to their style benchmark lasting more than three years. Almost half had drawdowns lasting five years or more. More than a quarter had periods lasting more than seven years.

Almost half the outperformers had drawdowns lasting more than five years

Source: The chart uses the same dataset as described for the first chart and in the Vanguard paper.

It's no wonder that even the most investment-savvy institutional investors can lose patience. However, they often end up shooting themselves in the foot when they act on that impatience. The landmark 2008 study by Goyal and Wahal showed that institutional asset managers who were fired for underperformance often subsequently ended up outperforming the asset managers who replaced them.1

A 2019 Morningstar study showed that mutual fund investors were no better, with the "fired" funds doing better than the "hired" funds.2 Essentially, both institutional and retail investors were practicing the opposite of the maxim "buy low, sell high."

Value investors need extra patience

Patience may be most stretched among value investors. The Vanguard paper shows that value stocks underperformed the broad market in 47% of rolling five-year periods, higher than for any other investment strategy covered by the research.

As discussed in a previous growth versus value article, the past several years have favored growth stocks, particularly the FANMAG names—Facebook, Amazon, Netflix, Microsoft, Apple, Google—which have driven much of the returns of market indexes over the past five years. Funds, even growth funds, that had little or no exposure to those stocks would have likely lagged their benchmarks over the past five years.

Economists have won Nobel Prizes with studies showing that value has outperformed growth over the long haul.3 But their studies span nearly three decades of market data. In the meantime, there can be periods of several years where value can (and has) lagged growth, such as in the current period. Value investing is contrarian by nature, so it should be no surprise that there will be protracted periods of relative underperformance, requiring extra patience.

Case study: Vanguard PRIMECAP Fund

Vanguard PRIMECAP Fund is a case study showing where patience is needed but can be well rewarded.

The portfolio managers have stayed true to their long-term investment philosophy. They invest in growth companies at attractive valuations, many in out-of-favor industries. By definition, this meant that they had relatively little exposure to FANMAG stocks that accounted for much of the market's returns in recent years. The fund's airline stocks were also unexpectedly hit by the COVID-19 pandemic's impact on the tourism industry. Combined, this has meant the fund's return has lagged its prospectus benchmark, the S&P 500 Index, over recent periods.

But the fund has been here before. For example, the fund lagged the benchmark for almost three years in the aftermath of the 2008 global financial crisis. But the patient investor would have been rewarded with an equally long period of outperformance and with a much higher magnitude of outperformance. As for frequency, the fund outperformed its bogey roughly 67% of rolling 12-month periods since the inception of the fund's AdmiralTM Shares (November 2001) through October 2020.

PRIMECAP Fund's excess returns vs. S&P 500 Index over rolling 12-month periods

Source: Vanguard, as of October 31, 2020. Excess returns are for the fund's Admiral Shares since inception in November 2001.

The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.

When viewed over longer five-year periods, the PRIMECAP Fund outpaced the index 99% of the time.

PRIMECAP Fund's excess return vs. S&P 500 Index over rolling five-year periods

Source: Vanguard, as of October 30, 2020. Excess annualized returns are for the fund's Admiral Shares since inception.

When the fund is compared with growth benchmarks, such as the Russell 1000 Growth Index, PRIMECAP has more frequent periods of underperformance. But even here, the fund outperformed the index in 70% of rolling five-year periods. Interestingly, when compared with the average fund in Lipper's large-cap growth category, PRIMECAP outperformed 93% of the time.

PRIMECAP Fund's excess return vs. growth benchmarks over rolling five-year periods

Sources: Vanguard and Lipper Analytics. Month-end data from November 2001 (inception of PRIMECAP Admiral Shares) through October 2020. Lipper peer-group data was through September 2020, as October data was not available at time of publication.

There may be other material differences between products that must be considered prior to investing.

Percentage of periods when Vanguard PRIMECAP Fund Admiral Shares outperformed index or peer group

Index or peer group S&P 500 Index Russell 1000 Growth Index Large-Cap Growth Fund Average
12-month periods 67% 54% 69%
Five-year periods 99% 70% 93%

Sources: Vanguard and Lipper Analytics. Month-end data from November 2001 (inception of PRIMECAP Admiral Shares) through October 2020. Lipper peer-group data was through September 2020, as October data was not available at time of publication.

As markets return to more normal valuations, the PRIMECAP Fund may return to the type of performance that's more typical of its long-term record, which earned its asset managers Morningstar's Domestic-Stock Fund Manager of the Year Award twice.4 An opportunist might even say it's a good time to buy at bargain-basement prices.

The overlooked component of successful active investing

When it comes to active strategies, investors rightfully focus most of their attention on manager selection. Plan sponsors and consultants should and do consider the qualitative characteristics of the management firm—its people, philosophy, and process—not just performance.

But once they've done their due diligence and committed to a manager, they also need the patience to outlast the periods of inevitable underperformance to be rewarded with the payoff.

Annualized returns for Vanguard PRIMECAP Fund Admiral Shares vs. benchmark

  1-year 3-year 5-year 10-year Since inception
PRIMECAP Fund 7.57% 9.38% 12.42% 13.90% 10.36%
S&P 500 Index 9.71% 10.42% 11.71% 13.01% 7.97%

Source: Vanguard, as of October 31, 2020. Admiral Shares' inception date is November 12, 2001. The expense ratio is 0.31%.

The performance data shown represent past performance, which is not a guarantee of future results. Investment returns and principal value will fluctuate, so investors' shares, when sold, may be worth more or less than their original cost. Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at

1 Goyal, Amit, and Sunil Wahal, 2008. "The Selection and Termination of Investment Management Firms by Plan Sponsors." The Journal of Finance 63, no. 4 (August): 1805-1847.
2 Ptak, Jeffrey, 2019. "Think Twice Before You Ditch That Laggard Fund in Your Portfolio." Morningstar (March).
3 Fama, Eugene F., and Kenneth R. French, 1993. "Common Risk Factors in the Returns on Stocks and Bonds." Journal of Financial Economics 33: 3-56.
4 The PRIMECAP team won the award in 2003 and 2014. The awards acknowledge managers who not only delivered impressive performance in their respective years, but who have also shown excellent long-term risk-adjusted returns and have been good stewards of fund shareholders' capital. For 2014, Morningstar's director of manager research said, "The long-term record of these winning PRIMECAP funds is outstanding. The team has made a lot of money for many people at a low cost."


  • All investing is subject to risk, including the possible loss of the money you invest.
  • Past performance is no guarantee of future returns.
  • For more information about any fund, visit or call 800-523-1036 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information are contained in the prospectus; read and consider it carefully before investing.
  • Excess return is the difference between a fund's NAV total return and the total return of its benchmark index.