# Momentum Investing

Do financial market prices reliably exhibit momentum? If so, why, and how can traders best exploit it? These blog entries relate to momentum investing/trading.

**December 4, 2018** - Momentum Investing

Do exchange-traded funds (ETF) exhibit statistically reliable short-term reversal and intermediate-term momentum? In their October 2018 paper entitled “Momentum Strategies for the ETF-Based Portfolios”, Daniel Nadler and Anatoly Schmidt look for reversal and momentum in next-month performance of past winners and past losers for the following 13 universes:

- U.S. Equity ETFs: 28 US equity ETFs with returns available at the beginning of 2006.
- Multi-Asset Class ETFs: U.S. Equity ETFs plus one gold ETF, five international equity ETFs and five bond ETFs, also with returns available at the beginning of 2006.
- 11 U.S. Equity ETF Proxies: formed separately from the stock holdings as of January 2018 of each of SPDR S&P 500 (SPY), PowerShares NASDAQ 100 (QQQ) or one of the nine Select Sector SPDRs.

Every day for each universe, they reform overlapping winner (loser) portfolios consisting of the equally weighted tenth (decile) of assets with the highest (lowest) total returns over the past 21, 63, 126 or 252 trading days and hold for 21 trading days. They consider two test periods: 2007 through 2017, and 2011 through 2007. They use equal-weighted portfolios of all assets in each universe as the benchmark for that universe. They conclude that one portfolio beats another when the difference between average 21-day future returns is statistically significant with p-value less than 0.10. Using daily returns for the specified assets during 2006 through 2017, *they find that:* Keep Reading

**November 30, 2018** - Bonds, Equity Premium, Momentum Investing, Strategic Allocation

Are the “Simple Asset Class ETF Value Strategy” (SACEVS) and the “Simple Asset Class ETF Momentum Strategy” (SACEMS) mutually diversifying. To check, we look at the following three equal-weighted (50-50) combinations of the two strategies, rebalanced monthly:

- SACEVS Best Value paired with SACEMS Top 1 (aggressive value and aggressive momentum).
- SACEVS Best Value paired with SACEMS Equally Weighted (EW) Top 3 (aggressive value and diversified momentum).
- SACEVS Weighted paired with SACEMS EW Top 3 (diversified value and diversified momentum).

We also test sensitivity of results to deviating from equal SACEVS-SACEMS weights. Using monthly gross returns for SACEVS and SACEMS portfolios since January 2003 for the first strategy and since July 2006 for the latter two, all through October 2018, *we find that:* Keep Reading

**November 27, 2018** - Fundamental Valuation, Momentum Investing, Value Premium, Volatility Effects

What is the best way to construct equity multifactor portfolios? In the November 2018 revision of their paper entitled “Equity Multi-Factor Approaches: Sum of Factors vs. Multi-Factor Ranking”, Farouk Jivraj, David Haefliger, Zein Khan and Benedict Redmond compare two approaches for forming long-only equity multifactor portfolios. They first specify ranking rules for four equity factors: value, momentum, low volatility and quality. They then, each month:

- Sum of factor portfolios (SoF): For each factor, rank all stocks and form a factor portfolio of the equally weighted top 50 stocks (adjusted to prevent more than 20% exposure to any sector). Then form a multifactor portfolio by equally weighting the four factor portfolios.
- Multifactor ranking (MFR): Rank all stocks by each factor, average the ranks for each stock and form an equally weighted portfolio of those stocks with the highest average ranks, equal in number of stocks to the SoF portfolio (again adjusted to prevent more than 20% exposure to any sector).

They consider variations in number of stocks selected for individual factor portfolios from 25 to 200, with comparable adjustments to the MFR portfolio. They assume trading frictions of 0.05% of turnover. Using monthly data required to rank the specified factors for a broad sample of U.S. common stocks and monthly returns for those stocks and the S&P 500 Total Return Index (S&P 500 TR) during January 2003 through July 2016, *they find that:* Keep Reading

**November 26, 2018** - Bonds, Calendar Effects, Equity Premium, Momentum Investing, Size Effect, Strategic Allocation, Value Premium

Is the U.S. equity turn-of-the-month (TOTM) effect exploitable as a diversifier of other assets? In their October 2018 paper entitled “A Seasonality Factor in Asset Allocation”, Frank McGroarty, Emmanouil Platanakis, Athanasios Sakkas and Andrew Urquhart test U.S. asset allocation strategies that include a TOTM portfolio as an asset. The TOTM portfolio buys each stock at the open on the last trading day of each month and sells at the close on the third trading day of the following month, earning zero return the rest of the time. They consider four asset universes with and without the TOTM portfolio:

- A conventional stocks-bonds mix.
- The equity market portfolio.
- The equity market portfolio, a small size portfolio and a value portfolio.
- The equity market portfolio, a small size portfolio, a value portfolio and a momentum winners portfolio.

They consider six sophisticated asset allocation methods:

- Mean-variance optimization.
- Optimization with higher moments and Constant Relative Risk Aversion.
- Bayes-Stein shrinkage of estimated returns.
- Bayesian diffuse-prior.
- Black-Litterman.
- A combination of allocation methods.

They consider three risk aversion settings and either a 60-month or a 120-month lookback interval for input parameter measurement. To assess exploitability, they set trading frictions at 0.50% of traded value for equities and 0.17% for bonds. Using monthly data as specified above during July 1961 through December 2015, *they find that:*

Keep Reading

**November 20, 2018** - Economic Indicators, Fundamental Valuation, Momentum Investing, Size Effect, Technical Trading, Value Premium

Which economic and market variables are most effective in predicting U.S. stock market returns? In his October 2018 paper entitled “Forecasting US Stock Returns”, David McMillan tests 10-year rolling and recursive (inception-to-date) one-quarter-ahead forecasts of S&P 500 Index capital gains and total returns using 18 economic and market variables, as follows: dividend-price ratio; price-earnings ratio; cyclically adjusted price-earnings ratio; payout ratio; Fed model; size premium; value premium; momentum premium; quarterly change in GDP, consumption, investment and CPI; 10-year Treasury note yield minus 3-month Treasury bill yield (term structure); Tobin’s q-ratio; purchasing managers index (PMI); equity allocation; federal government consumption and investment; and, a short moving average. He tests individual variables, four multivariate combinations and and six equal-weighted combinations of individual variable forecasts. He employs both conventional linear statistics and non-linear economic measures of accuracy based on sign and magnitude of forecast errors. He uses the historical mean return as a forecast benchmark. Using quarterly S&P 500 Index returns and data for the above-listed variables during January 1960 through February 2017, *he finds that:* Keep Reading

**November 19, 2018** - Big Ideas, Momentum Investing, Value Premium

How does a large sample of stock return anomalies fare in recent replication testing? In their October 2018 paper entitled “Replicating Anomalies”, Kewei Hou, Chen Xue and Lu Zhang attempt to replicate 452 published U.S. stock return anomalies, including 57, 69, 38, 79, 103, and 106 anomalies 57 momentum, 69 value-growth, 38 investment, 79 profitability, 103 intangibles and 106 trading frictions (trading volume, liquidity, market microstructure) anomalies. Compared to the original papers, they use the same sample populations, original (as early as January 1967) and extended (through 2016) sample periods and similar methods/variable definitions. They test limiting influence of microcaps (stocks in the lowest 20% of market capitalizations) by using NYSE (not NYSE-Amex-NASDAQ) size breakpoints and value-weighted returns. They consider an anomaly replication successful if average high-minus-low tenth (decile) return is significant at the 5% level, translating to t-statistic at least 1.96 for pure standalone tests and at least 2.78 assuming multiple testing (accounting for aggregate data snooping bias). Using required anomaly data and monthly returns for U.S. non-financial stocks during January 1967 through December 2016, *they find that:*

Keep Reading

**November 5, 2018** - Economic Indicators, Momentum Investing

A reader requested review of the Decision Moose asset allocation framework. Decision Moose is “an automated stock, bond, and gold momentum model developed in 1989. Index Moose uses technical analysis and exchange traded index funds (ETFs) to track global investment flows in the Americas, Europe and Asia, and to generate a market timing signal.” The trading system allocates 100% of funds to the index projected to perform best. The site includes a history of switch recommendations since the end of August 1996, with gross performance. To evaluate Decision Moose, we assume that switches and associated trading returns are as described (out of sample, not backtested) and compare the returns to those for dividend-adjusted SPDR S&P 500 (SPY) over the same intervals. Using Decision Moose signals/performance data and contemporaneous SPY prices during 8/30/96 through 10/19/18 (22+ years), *we find that:* Keep Reading

**October 16, 2018** - Equity Premium, Momentum Investing, Size Effect, Value Premium, Volatility Effects

Are equity multifactor strategies, as implemented by exchange-traded funds (ETF), attractive? To investigate, we consider seven ETFs, all currently available (in order of decreasing assets):

- Goldman Sachs ActiveBeta U.S. Large Cap Equity (GSLC) – holds large U.S. stocks based on good value, strong momentum, high quality and low volatility.
- iShares Edge MSCI Multifactor USA (LRGF) – holds large and mid-cap U.S. stocks with focus on quality, value, size and momentum, while maintaining a level of risk similar to that of the market.
- iShares Edge MSCI Multifactor International (INTF) – holds global developed market ex U.S. large and mid-cap stocks based on quality, value, size and momentum, while maintaining a level of risk similar to that of the market.
- JPMorgan Diversified Return U.S. Equity (JPUS) – holds U.S. stocks based on value, quality and momentum via a risk-weighting process that lowers exposure to historically volatile sectors and stocks.
- John Hancock Multifactor Large Cap (JHML) – holds large U.S. stocks based on smaller capitalization, lower relative price and higher profitability, which academic research links to higher expected returns.
- John Hancock Multifactor Mid Cap (JHMM) – holds mid-cap U.S. stocks based on smaller capitalization, lower relative price and higher profitability, which academic research links to higher expected returns.
- Xtrackers Russell 1000 Comprehensive Factor (DEUS) – seeks to track, before fees and expenses, the Russell 1000 Comprehensive Factor Index, which seeks exposure to quality, value, momentum, low volatility and size factors.

Because available sample periods are very short, we focus on daily return statistics, along with cumulative returns. We use four benchmarks according to fund descriptions: SPDR S&P 500 (SPY), iShares MSCI ACWI ex US (ACWX), SPDR S&P MidCap 400 (MDY) and iShares Russell 1000 (IWB). Using daily returns for the seven equity multifactor ETFs and benchmarks as available through September 2018, *we find that:* Keep Reading

**October 15, 2018** - Equity Premium, Momentum Investing, Sentiment Indicators, Size Effect, Value Premium, Volatility Effects

Quantitative investing involves disciplined rule-based approaches to help investors structure optimal portfolios that balance return and risk. How has such investing evolved? In their June 2018 paper entitled “The Current State of Quantitative Equity Investing”, Ying Becker and Marc Reinganum summarize key developments in the history of quantitative equity investing. Based on the body of research, *they conclude that:* Keep Reading

**October 5, 2018** - Equity Premium, Momentum Investing

Are U.S. stock and sector momentum strategies, as implemented by exchange-traded funds (ETF), attractive? To investigate, we consider five momentum-oriented U.S. equity ETFs with assets over $100 million, all currently available (in order of decreasing assets):

- iShares Edge MSCI USA Momentum Factor (MTUM) – holds U.S. large-capitalization and mid-capitalization stocks with relatively high momentum.
- First Trust Dorsey Wright Focus 5 (FV) – holds five equally weighted sector and industry ETFs selected via a proprietary relative strength methodology, reformed twice a month.
- PowerShares DWA Momentum Portfolio (PDP) – invests at least 90% of assets in approximately 100 U.S. common stocks per a proprietary methodology designed to identify powerful relative strength characteristics, reformed quarterly.
- SPDR Russell 1000 Momentum Focus (ONEO) – tracks the Russell 1000 Momentum Focused Factor Index, picking U.S. stocks that have recently outperformed.
- First Trust Dorsey Wright Dynamic Focus 5 ETF (FVC) – similar to FV but with added risk management via an increasing allocation to cash equivalents when relative strengths of more than one-third of the universe diminish relative to a cash index, reformed twice a month.

Because some sample periods are very short, we focus on daily return statistics, but also consider cumulative returns and maximum drawdowns (MaxDD). We use two benchmark ETFs, iShares Russell 1000 (IWB) and iShares Russell 3000 (IWV), according to momentum fund descriptions. Using daily returns for the five momentum funds and the two benchmarks as available through mid-September 2018, *we find that:* Keep Reading