- Momentum is the phenomenon that securities that have performed well relative to their peers (“winners”) over the recent period tend to continue to outperform, and securities that have performed relatively poorly (“losers”) tend to continue to underperform.
- This is so-called a "trend-following" strategy, not "reversal" strategy to use mean-reversion.
- An academic-style portfolio, such as Fama-French’s “Up-Minus-Down” (UMD) long/short factor is constructed by (1) ranking stocks (or any other investment instruments like currencies) on total returns over the past year skipping the most recent month, (2) selecting the top third of stocks (it depends on your preference), (3) weighting them in proportion to market capitalization (equal-weight or inclination distribution system is also an option), and then (4) rebalancing on a monthly/quarterly basis.
- Two types of Momentum
- cross-sectional momentum
- winners and losers are defined relative to their peers
- time-series momentum
- trend-following for a single asset, where a winner or loser is defined based on its own return being positive or negative
- Behavioral theories for momentum posit short-term underreaction to new information due to anchoring or inattention, and/or overreaction to price moves in the medium-term due to feedback trading and investor herding.
- The authors remain advocates of momentum investing and believe it is implementable in practice as a stand-alone strategy. Further, alongside other themes like value and profitability, momentum is not only more valuable from a portfolio efficiency standpoint, but may also be more implementable when combined with other themes and integrated into a multi-style portfolio.
Sources
https://www.aqr.com/library/working-papers/implementing-momentum-what-have-we-learned
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3081165
Ross, Adrienne and Moskowitz, Tobias J. and Israel, Ronen and Serban, Laura, Implementing Momentum: What Have We Learned? (December 1, 2017). Available at SSRN: https://ssrn.com/abstract=3081165 or http://dx.doi.org/10.2139/ssrn.3081165
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