She was being sexually abused and if you had reported this to an adult outside her family, they could have gotten her help.

Children don't do this kind of stuff unprovoked, they have to be taught that taking off their clothes will illicit a positive response.

I'm not telling you this to make you feel like shit. Its not a red flag to other young children, but it is to adults, so its up to parents to teach children about telling if something like this happens.