Momentum investing, the go-to strategy of the go-go 1990s, is back.
In its simplest form, momentum investing means buying whatever sector has had the greatest price or earnings gains in the past 12 months. Variations of earnings and price momentum were the engines that fueled big gains at American Century Ultra, once one of the nation's 10 largest stock funds, and at Pilgrim Baxter & Associates.
During the tech wreck, investors discovered what happens to momentum funds when they hit a wall, which were much like what happens when a gnat hits a jet turbine. American Century Ultra actually held up reasonably well: It fell at a 19% annual rate from 2000 through 2002, versus a 14.5% decline for the Standard & Poor's 500 stock index. Others were not so fortunate: Scandal-plagued Pilgrim Baxter was merged out of existence.
In recent years, however, a number of academic papers have suggested that momentum strategies do, in fact, work fairly well and for long periods of time.
A 2014 white paper by AQR looked at 100 years of results from momentum strategies and found that “trend following has delivered strong positive returns and realized a low correlation to traditional asset classes for more than a century.”
AQR Principal Ronen Israel presented a vigorous defense of momentum investing at the
2016 Morningstar ETF conference in Chicago on Thursday.
Drawing from a recent co-bylined story in the Journal of Portfolio management, Mr. Israel addressed several myths about momentum investing, ranging from returns (better than you'd think), trading costs (much less than you'd think) and tax efficiency (about as good as a value strategy).
Trading costs, long a knock against momentum, should be of particular interest to advisers who want to keep costs low. Mr. Israel argued that the trading costs used in academic studies are about 10 times larger than those that investors experience in real life, noting that allowing for some tracking error can further reduce trading costs without significantly reducing returns.
Momentum investing was the subject of another workshop later that day, featuring Gary Antonacci from Optimal Momentum, Meb Faber of Cambria Investment Management and Wes Gray from Alpha Architect. The packed panel discussion talked about why momentum baffles academics and is so difficult for investors to harness.
The ETF market has been quick to catch on to advisers' interest in momentum investing. Among the
suite of factor-based ETFs that Fidelity announced Thursday was one that focused on momentum, the Fidelity Momentum Factor ETF (FDMO), which begins trading Sept. 15. In Fidelity's words, 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's LibertyShares ETFs don't offer a momentum ETF, but their three multi-factor ETFs use momentum as one of their factors. Other momentum funds rolled out recently include the PowerShares DWA Momentum & Low Volatility (DWLV), Apatus Momentum ETF (BEMO) and MomentumShares International Quantitative Momentum fund (IMOM).
Momentum strategies have lagged this year, while value strategies have generally been more popular with investors. The oldest momentum ETF, PowerShares DWA
NASDAQ Momentum ETF (DWAQ), has gained 4.39% this year. A specialized momentum ETF, PowerShares Equity Energy Momentum ETF, has soared 26.32%.
But the risks in momentum are also apparent from some specialty funds: PowerShares DWA Healthcare Momentum (PTH) has tumbled 10.32%. The trick to momentum investing is buying when prices are low and on the rally.
