Momentum Investment
International Finance – Finance 663
Prepared by:
Derek Song
German Hurtado
Mustafa Jalil Qureshi
Rodrigo De La Maza
Fuqua School of Business, Duke University
Content
1. Introduction
2. Why the Insurance Industry?
3. Methodology applied
4. Results and Analysis
5. Conclusions
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
1. Introduction
Momentum Investing
What is Momentum Strategy?
–Tendency of investments to persist in their current performance
–Go long on top performing stocks and short on bottom performing stock
•Should not exist in the Modigliani and Miller world of perfect market
Plausible Explanations:
–Reward for the excessive Risk taken by the Investor
–Reward from herd mentality, lead lag, over under reaction
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
2.Industry
Insurance
Criteria:
– Mature Industry
Bank
Retail
Banking
Insuranc
e
Health
Care
Metals
and
Mining
Beverage
– Ease of Data Availability
– No seasonal Impact
– Geography (Market); Developed
– Low Volatility / Market Fundamental
Hypothesis:
“Momentum Investment in Insurance
Electronics
R.E.I.T
Industry will lead to XX% returns “
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
Formation Period “F”
A
B
C
D
E
F
G
H
I
J
K
L
M
N
O
B
E
H
K
O
A
N
M
L
J
I
G
F
D
C
(Winners)
(Losers)
Formation Period “F”
+
Holding Period “H”
Return(+
)>0
,-
20%
15%
10%
5%
0%
1
-5%
-10%
-15%
-20%
2
3
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F x H = 3 x 3 (n = 20 months)
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
F
H
(n – (F + H)) portfolios
1
2
3
4
5
6
7
8
9
10
11
12
13
14
Holding Period
Month 2
Month 1
1
1
R
R
R
R
R
R
R
R
2
R
R
R
R
3
2
1
3
1
4
1
5
1
2
3
6
1
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1
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1
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9
1
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10
1
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3
11
1
2
3
12
1
2
3
13
1
2
3
14
1
R
R
2
R
R
R
R
Month 3
2
2
2
R
R
3
3
3
3
R
R
R
R
R
R
R
R
R
R
Holding Period
Month 2
Month 1
Month 3
1
AR (
,
)
2
AR (
,
)
3
AR (
,
)
1
AR (
,
)
2
AR (
,
)
3
AR (
,
)
1
AR (
,
)
2
AR (
,
)
3
AR (
,
)
1
AR (
,
)
2
AR (
,
)
3
AR (
,
)
AR (
,
)
1
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3
1
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3
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2
3
1
2
3
1
AR (
,
)
2
AR (
,
)
3
Holding Period
Month 2
Month 1
Month 3
1
CAR1(
,
)
2
CAR2(
,
)
3
CAR3(
,
)
CAR3(
,
)
1
CAR1(
,
)
2
CAR2(
,
)
3
CAR3(
,
)
CAR3(
,
)
1
CAR1(
,
)
2
CAR2(
,
)
3
CAR3(
,
)
CAR3(
,
)
1
CAR1(
,
)
2
CAR2(
,
)
3
CAR3(
,
)
CAR3(
,
)
CAR3(
,
)
CAR3(
,
)
1
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3
1
2
3
1
2
3
1
2
3
1
2
3
1
2
3
1
2
3
1
2
3
1
2
3
1
CAR1(
,
)
2
CAR2(
,
)
3
MCAR3
Holding Period
Month 2
Month 1
1
1
R(
R(
R(
R(
,
)
)
)
)
2
,
)
)
)
)
3
2
1
3
1
4
1
5
1
2
3
6
1
2
3
7
1
2
3
8
1
2
3
9
1
2
3
10
1
2
3
11
1
2
3
12
1
2
3
13
1
2
3
14
1
R(
,
,
,
,
MAR1
)
2
R(
R(
R(
R(
Month 3
2
2
2
R(
,
,
,
,
MAR2
)
3
3
3
3
R(
R(
R(
R(
,
,
)
)
)
)
R(
,
)
,
,
MAR3
TESTS:
1) MCARH > 0
2) If, MCARH > 0; find Optimal H
3) Test of Statistical Significance
4) Analyze MARs
3. XXX
Overview
• XXX
• XXX
a. XXX
b. XXX
c. XXX
• XXX
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
4. Results and Analysis
Mean Cumulative Average Returns - MCAR
• Test if
Winners –
Losers > 0
• The will indicates how much the portfolios including winner and loser portfolios
earn on average during test holding period.
• We expected to prove our hypothesis that MCARw – MCARl > 0, and based on
the T-Stats results shown below for various MxN strategies, we concluded that
our hypothesis was correct.
Statistics of the Return MCARw - MCARL of portfolio applying the MxN Momentum Investment Strategy
>2
• Also, we found particularly interesting the value seen in the 6X12 strategy, whereas the T-Stats
value reached the highest value at 6.773 while providing the highest Mean/Variance ratio.
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
4. Results and Analysis
Mean Cumulative Average Returns - MCAR
• But, after analyzing all the historical data, which strategy is the optimal?
• We tested six momentum investment strategies with different formation periods (3 or 6 months)
and holding periods (3, 6, 12 months).
• We can conclude that the longer formation period, the higher investment return. If we annualize
the returns of all portfolios with different holding periods, we can find that, generally, the 6x12
strategy with 28.9% annualized return gives the highest value with the respective of
Mean/Variance of 0.603.
Annualized returns of portfolios with various holding periods
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
4. Results and Analysis
Mean Cumulative Average Returns - MCAR
• Although the accumulative returns of both loser and winner portfolio grows throughout the 12month period, the pace of increase slows down during some periods. Even in the 2nd, 10th and 12th
months, the MCAR of winner portfolio goes down. It may also be observed that MCAR of loser
portfolio almost remains negative except in 6th and 10th month.
• It is important to note that the range of data we are testing covers two recessions and two
rebounds. Thus, it becomes clear that regardless of the market direction, the difference of winner
and loser remains positive and growing.
MCAR of winner and loser portfolio for the testing period for 6x12 trading strategy
30.00%
Winner MCAR
25.00%
20.00%
Loser MCAR
15.00%
10.00%
5.00%
0.00%
-5.00%
-10.00%
1
2
3
Momentum Investment - Finance 663
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Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
4. Results and Analysis
Mean Average Returns - MAR
• The MAR of a portfolio denotes the mean of the average return of the portfolio in the tth month of
the testing period. The MAR test helps identify:
(i) Whether it is the winner portfolio or loser portfolio that runs outs of momentum and if
(ii) The returns of which portfolio (winner or loser) are reversed in the first instance.
• We calculated the difference between MARW and MARL. We can see that the overall MAR of our
portfolios are positive in each month of the holding period. The mean of monthly returns is 2.4%
and the standard deviation is 1.86%. The skewness is 1.39, which means we have a more positive
returns greater than 2.4%.
MARW minus MARL for 6x12 Strategy
8.00%
7.00%
Returns
6.00%
5.00%
4.00%
3.00%
2.00%
1.00%
0.00%
1
2
3
Momentum Investment - Finance 663
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Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza
Conclusions
• We validated the hypothesis about Momentum Investment: Assets that perform well
over a 3 to 12 month period tend to continue to perform well into the future.
• Momentum profits provide fund managers with an excellent opportunity to create
beta-neutral, superior-return portfolios.
• The insurance industry in the U.S is a pretty good investment target in order to
implement this long-short momentum investment strategy. The average accumulative
return during 12-months using this trading strategy is about 28.92%.
- This figure is better than the return obtained using a passive investment strategy
investing index or ETF.
- The optimal formation period in this industry during 2001 – 2012 is 6 months and
holding period is 12 months.
• Finally, we also showed that Momentum Investment may work well in case markets
are positive or negative trending.
Momentum Investment - Finance 663
Prepared by:
Derek Song, German Hurtado, Mustafa Jalil Qureshi, Rodrigo De La Maza