Momentum, Reversal, and the Firm Fundamental Cycle

54 Pages Posted: 12 Nov 2018 Last revised: 20 Nov 2018

See all articles by Yufeng Han

Yufeng Han

University of North Carolina (UNC) at Charlotte - Finance

Zhaodan Huang

Utica College

Weidong Tian

University of North Carolina (UNC) at Charlotte - The Belk College of Business Administration

Guofu Zhou

Washington University in St. Louis - John M. Olin Business School; China Academy of Financial Research (CAFR)

Date Written: November 11, 2018

Abstract

We link momentum and long-run return reversal to the cyclic behavior of firm fundamentals, which are represented by a fundamental index that summarizes succinctly and efficiently a broad range of business activities at firm level. In responding to repeated unanticipated positive (negative) shocks in fundamentals, investors continue to raise (lower) prices for winner (loser) firms, yielding momentum. However, due to the cyclicality of firm fundamentals, the unanticipated positive (negative) shocks decrease in magnitude overtime and eventually reverse, generating the reversal pattern. In addition, we find that firm fundamentals can explain stronger momentum in microcap stocks, and a long/short decile portfolio based on the firm fundament index outperforms the popular momentum portfolio substantially by doubling the Sharpe ratio and does not suffer crashes.

Keywords: Momentum, Reversal, Firm Fundamental Cycles, PLS, PCA

JEL Classification: G11, G14

Suggested Citation

Han, Yufeng and Huang, Zhaodan and Tian, Weidong and Zhou, Guofu, Momentum, Reversal, and the Firm Fundamental Cycle (November 11, 2018). Available at SSRN: https://ssrn.com/abstract=3282420 or http://dx.doi.org/10.2139/ssrn.3282420

Yufeng Han

University of North Carolina (UNC) at Charlotte - Finance ( email )

9201 University City Boulevard
Charlotte, NC 28223
United States

Zhaodan Huang

Utica College ( email )

1600 Burrstone Rd
Utica, NY 13502
United States

Weidong Tian

University of North Carolina (UNC) at Charlotte - The Belk College of Business Administration ( email )

9201 University City Boulevard
Charlotte, NC 28223-0001
United States

HOME PAGE: http://belkcollegeofbusiness.uncc.edu/wtian1/

Guofu Zhou (Contact Author)

Washington University in St. Louis - John M. Olin Business School ( email )

Washington University
Campus Box 1133
St. Louis, MO 63130-4899
United States
314-935-6384 (Phone)
314-658-6359 (Fax)

HOME PAGE: http://apps.olin.wustl.edu/faculty/zhou/

China Academy of Financial Research (CAFR)

Shanghai Advanced Institute of Finance
Shanghai P.R.China, 200030
China

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