Momentum Has Its Moments
University of Exeter Business School
New University of Lisbon - Nova School of Business and Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)
April 9, 2013
Compared to the market, value or size factors, momentum has offered investors the highest Sharpe ratio. However, momentum has also had the worst crashes, making the strategy unappealing to investors with reasonable risk aversion. We fi nd that the risk of momentum is highly variable over time and quite predictable. The major source of predictability is not time-varying market risk but rather momentum-specific risk. Managing this risk virtually eliminates crashes and nearly doubles the Sharpe ratio of the momentum strategy. Risk management works because high risk forecasts both high risk and low returns. As a result, risk-managed momentum is a much greater puzzle than the original version.
Number of Pages in PDF File: 36
Keywords: Stock momentum, risk management, anomalies
JEL Classification: G11, G14working papers series
Date posted: April 18, 2012 ; Last revised: January 23, 2014
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