Are Momentum Profits Robust to Trading Costs?
Northwestern University Department of Finance Working Paper No. 289; AFA 2003 Washington, DC Meetings
43 Pages Posted: 28 Mar 2002
Date Written: April 18, 2003
This paper tests whether momentum-based strategies remain profitable after considering market frictions, in particular price concessions induced by trading. Alternative measures of price impact are estimated and applied to alternative momentum-based trading rules. The performance of traditional momentum strategies, in addition to strategies designed to reduce the cost of trades, is evaluated. We find that, after taking into account the price impact induced by trades, as much as 5 billion dollars (relative to December 1999 market capitalization) may be invested in some momentum-based strategies before the apparent profit opportunities vanish. Other, extensively studied, momentum strategies are not implementable on a large scale. The persistence of momentum returns exhibited in the data remains an important challenge to the asset-pricing literature.
Note: Previously titled On the Financial Significance of Momentum
Keywords: Momentum strategies, Transaction costs, Price impact, Optimal trading, Market efficiency
JEL Classification: G11, G14
Suggested Citation: Suggested Citation