- In the pre-1927 data, the momentum effect remains statistically significant and is about half that of the post-1927 period.
- From 1801 to 1926, the equally weighted top third of stocks sorted on price momentum outperformed the bottom third by 0.28 percent per month (t-stat 2.7) compared to 0.58 percent per month (t-stat 3.6) for the period 1927-2012.
- Linking the two periods together generates a 212-year history of momentum returns, averaging 0.4 percent per month (t-stat 5.7).
The authors concluded that the most recent decade-long underperformance of momentum is not unusual.
They wrote: “Momentum profits are highly variable over time. Nevertheless, over the long run, the trend-following strategy would have generated significant market outperformance, in a different century than the one in which it was discovered and tested. Our study adds to the evidence that momentum effect is not a product of data-mining but is highly variable overtime.”
Among their other conclusions, the authors determined that the momentum premium shifts with “regime” changes. In the first year of a new regime, momentum makes a negative contribution to returns. However, as the regime persists, momentum makes a positive contribution to returns. In other words, momentum is subject to crashes and reversals, such as we experienced in March 2009.
In 2009, the Fama-French momentum factor produced a return of -52.6 percent. As the regime persisted, the momentum factor once again turned positive, returning 4.8 percent per year from 2010-2013. The compound return during this period was 4.7 percent.
In addition, after producing a return of -17.8 percent in 2003 (the regime switched following the bear market of 2000-2002), momentum provided an annual average return of 9.9 percent from 2004 through 2008. The compound return during this period was 9.3 percent.
It seems hard to argue that momentum has disappeared when its returns have been negative in only two of the last seven calendar years, and in one of them (2012), the loss was just 1.1 percent. It’s also worth noting that these crashes in momentum only occur in a long-short portfolio. Long-only momentum portfolios don’t experience such crashes.
- The two worst months for the momentum strategy are July and August in 1932, when the strategy lost 206 percent. However, past winners gained 30 percent, while past losers gained 236 percent.
- For the three months from March through May 2009, the strategy lost almost 150 percent. However, past winners gained 6.5 percent, while past losers gained 156 percent.
The takeaway here is that the momentum factor’s performance over the last decade hasn’t been unusual. Rather, the historical evidence shows that the momentum factor has been consistent and ubiquitous. Later this week, we’ll continue our exploration of the momentum factor by discussing its out-of-sample record and the benefits of exposure to it for purposes of portfolio diversification.
Larry Swedroe is the director of research for the BAM Alliance, a community of more than 130 independent registered investment advisors throughout the country.