Hedging the Time-Varying Risk Exposures of Momentum Returns
26 Pages Posted: 6 Mar 2008 Last revised: 12 Oct 2012
Date Written: October 11, 2012
Momentum returns have time-varying exposures to the three Fama and French equity risk factors. In particular factor loadings are higher when the factor returns during the ranking period are higher. In this study we look at momentum returns after hedging the time-varying exposures to the Fama and French factors. We find that specifically taking into account the conditional nature of the time-variation in factor loadings is the best way to hedge. The hedged momentum returns are higher, less risky, more stable over time and vary less over different market conditions. Determining momentum betas based on estimated individual stock betas leads to large systematic biases and hence is less effective in hedging.
Keywords: Momentum, hedging, conditional factor model
JEL Classification: G14, G12, E32
Suggested Citation: Suggested Citation