Trading Systems How Momentum Investing is Making a Comeback

Momentum investing was all the rage in the 1990s when the markets were rising like a hot air balloon. This strategy is based upon the idea of purchasing whatever sector of the market has posted the greatest earnings or price gains in the market over the past year. Many funds, such as American Century Ultra (TWCUX), relied heavily on variations of the momentum strategy during this time and when the tech bubble burst, they went down with it, some harder than others.

But a new group of studies has indicated that momentum investing is actually a viable long-term investment strategy and has performed admirably over longer periods of time.

The Research
AQR Capital Management published a white paper in September of 2014 that was titled “Fact, Fiction and Momentum Investing.” This paper analyzed the results of momentum investing over a 100-year period and concluded that “trend following has delivered strong positive returns and realized a low correlation to traditional asset classes for more than a century.”

Ronen Israel, principal at AQR, staunchly defended momentum investing at the recent 2016 Morningstar exchange-traded fund (ETF) conference in Chicago, Investment News reports. He drew his argument from a recent article that he co-bylined for the Journal of Portfolio Management that refuted many misperceptions about this investing strategy. In his article, Israel shows that the long-term returns of momentum strategies have produced better results than many experts believe and that the trading costs for this strategy are lower than is commonly expected. This strategy has also posted about the same level of tax efficiency as value investing.

Trading costs are a critical factor that advisors who want to minimize fees should consider. Israel maintains that the trading costs that are typically used in academic studies are usually about 10 times the amount that clients will actually pay, and allowance for a margin of error in tracking can reduce those costs even further without eroding returns.

Ronen was not the only speaker to address momentum investing at this forum. Gary Antonacci of Optimal Momentum, Meb Faber of Cambria Investment Management and Wes Gray from Alpha Architect conducted another workshop later that same day that also addressed this issue. The ETF market has also noticed advisors’ renewed interest in this strategy.

Momentum ETF Launches
Fidelity Investments, meanwhile, has recently launched a new ETF, the Fidelity Momentum Factor ETF (FDMO), one of a group of factor-based ETFs that the company is introducing to the market. Fidelity has said that the fund will seek “stocks of companies with historically high total and volatility-adjusted returns, high positive earnings surprises and low average short interest.”

Franklin Templeton is another fund company that relies on momentum strategies with its funds. Although its LibertyShares ETFs don’t contain a momentum fund per se, all three of these funds employ momentum as one of their factors. Several other momentum funds have also recently been rolled out, including the PowerShares DWA Momentum & Low Volatility (DWLV), Apatus Momentum ETF (BEMO) and Momentum Shares International Quantitative Momentum fund (IMOM).

Performance
Momentum strategies have lagged value strategies in performance thus far this year, which is partly why value investing has been the more popular option. PowerShares DWA NASDAQ Momentum ETF (DWAQ), the oldest momentum fund in existence, has posted a 10.37% gain thus far this year. Other more specialized momentum funds have posted both positive and negative returns.

In Summary
Momentum investing is clearly making a comeback. Recent studies have shown that this has been a viable strategy all along and the key to success with this approach has been buying in when prices are down and about to rise again.

Mark Cussen can be contacted via this link: Mark P. Cussen
 
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