This paper focuses on the structures and characteristics that underlie the periods of extremely poor momentum performance and sets a special focus on the latest 2009 momentum crash period. It answers questions regarding the momentum portfolio
composition during this period and quantitatively evaluates the momentum portfolio, measuring commonly applied performance indicators. The results are then contrasted with a non-crash benchmark period.
The momentum strategy is a simple yet powerful trading strategy. Momentum implies that past stock prices can predict future stock price development. According to momentum theory, past winner stocks are likely to continue their good performance
while past loser stocks are likely to continue to perform poorly. Hence, applying this strategy, investors buy stocks that have risen in the past the strongest and (short) sell those that have declined in value the most.
This very simple decision rule is practically the only important guideline to follow regarding the momentum strategy. Surprisingly and in spite of its simplicity, momentum works and yields high excess returns. Over the 1927 to 2012 period, the portfolio of past winner stocks yields an annualized excess return of 7.157% compared to the market portfolio. Even though momentum usually performs exceptionally well, it does not offer free lunch. In the 1927 to 2012 time frame, there are a few periods of extreme momentum underperformance that could have wiped out some significant wealth. For instance, during the most recent 2009 momentum crash, this strategy would have erased 104.28% of an initial investment in just 3 months.
Table of Contents
List of Figures
List of Tables
List of Abbreviations
1. Introduction
2. The Momentum Investment Strategy – a General Overview
2.1 Mode of Operation
2.2 Sources of Momentum
2.3 Momentum in Equities and Other Asset Categories
2.4 Correlation with the Fama French Factors
3. Data, Construction and Application of the Momentum Portfolio
3.1 Data Origin and Portfolio Construction
3.2 Application of the Portfolio
4. Momentum Crashes
4.1 The Major Crash Periods
4.2 Crash Triggers
4.2.1 Skewness and Kurtosis
4.2.2 Bear Markets and Portfolio Betas
4.2.3 Non-Linearity of Market Returns in and after Bear Markets
5. The 2009 Momentum Crash – a Detailed Analysis
5.1 Qualitative Analysis: Companies in the Winner and Loser Portfolio
5.2 Quantitative Analysis: Insights into risk, size, trading volume, and value factors
6. Conclusion
Appendix
Sources
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