Amplifying Momentum with Volume and Accounting Indicators
Posted in Fundamental Valuation, Momentum Investing, Technical Trading
April 19, 2010
Can investors enhance momentum returns for individual stocks with combination strategies that incorporate other technical and accounting indicators? In the April 2010 draft of their paper entitled “Technical, Fundamental, and Combined Information for Separating Winners from Losers”, Cheng-Few Lee and Wei-Kang Shih investigate combined momentum strategies based on past stock returns, past trading volume and sets of fundamental (accounting) indicators. They consider two distinct sets of fundamentals: Piotroski’s FSCORE for value stocks and Mohanram’s GSCORE for growth stocks. Their combined strategy is long (short) past winners (losers) with weak (strong) past relationship between returns and trading volume and high (low) fundamental scores. Using stock return/volume and firm fundamentals data for a broad sample of NYSE and AMEX non-financial stocks spanning 1982-2007 (26 years), they find that:
At the end each month, the authors select the stocks in the top (bottom) quintile of book-to-market ratios as the value (growth) stock sample. They then perform further quintile sorts sequentially by past 12-month return, covariance of past return and past trading volume and FSCORE (GSCORE). The combined strategy exploits the extreme “good” and “bad” triple-sorted value and growth stocks over holding periods of one, three and six months after portfolio formation. A skip-month between sorting and hedge portfolio formation avoids short-term reversal (see “Short-term Reversal by Industry”).
- The mean (median) book-to-market ratios for the value and growth samples are 2.24 (1.69) and 0.23 (0.18), respectively.
- The average monthly excess momentum-only returns (relative to three-month Treasury bill yield) for value (growth) stocks are 0.61% (0.91%), 0.58% (0.98%) and 0.49% (0.77%) over holding periods of one, three and six months, respectively.
- A strategy that combines momentum and return-volume covariance beats a momentum-only strategy for value stocks but not growth stocks. Specifically, a double-sort value stock strategy generates average monthly excess returns of 0.91%, 1.00% and 0.99% over holding periods of one, three and six months, respectively.
- A triple-sort strategy that combines momentum, return-volume covariance and FSCORE/GSCORE generates average monthly excess returns of:
- 1.78%, 3.36% and 2.96% for value stocks using FSCORE over holding periods of one, three and six months, respectively.
- 3.31%, 3.03% and 2.20% for growth stocks using GSCORE over holding periods of one, three and six months, respectively.
- Returns to a momentum-only strategy relate negatively to returns for the strategies based on FSCORE and GSCORE alone, suggesting volatility benefits from a combined strategy.
Note that this study does not address:
- The effects of reasonable trading frictions on net profitability of the strategies considered (which may face obstacles of high portfolio turnover and relatively low liquidity).
- The susceptibility of a complex rule (essentially multiple rules) to data snooping bias.
- The susceptibility of rules derived from past studies to second-hand data snooping bias passed from the parent studies.
In summary, investors may be able to boost momentum returns for individual stocks substantially by incorporating information from past trading volume and detailed analysis of firm fundamentals.
