What Can Explain Momentum? Evidence From Decomposition

66 Pages Posted: 19 Feb 2021 Last revised: 21 May 2021

See all articles by Jiaqi Guo

Jiaqi Guo

Birmingham Business School

Peng Li

University of Leeds - Division of Accounting and Finance

Youwei Li

Hull University Business School

Date Written: December 6, 2020

Abstract

This study comprehensively evaluates and ranks a large number of competing explanations for the momentum anomaly. As a benchmark for evaluation, firm fundamentals are found to be the most promising among well-known explanations of momentum, followed by prospect theory and mental accounting, and anchoring effect. Collectively, all explanations capture 31% of momentum, while 69% of momentum remains unexplained. This study thoroughly examines what fractions of the momentum anomaly emerge from the interaction effects between past returns and various firms’ characteristics. It is further found that strategies based on firm characteristics and residual momentum can significantly alleviate the severity of momentum crashes. Finally, robustness analysis is provided for choosing different formation and holding periods, excluding January observations, and analyze at the level of portfolio rather than individual stock.

Keywords: Momentum, Momentum Candidate Variables, Momentum Decomposition, Momentum Crashes

JEL Classification: G12, G14

Suggested Citation

Guo, Jiaqi and Li, Peng and Li, Youwei, What Can Explain Momentum? Evidence From Decomposition (December 6, 2020). Available at SSRN: https://ssrn.com/abstract=3749570 or http://dx.doi.org/10.2139/ssrn.3749570

Jiaqi Guo

Birmingham Business School

Peng Li

University of Leeds - Division of Accounting and Finance ( email )

Leeds LS2 9JT
United Kingdom

Youwei Li (Contact Author)

Hull University Business School ( email )

University of Hull
Hull, HU6 7RX
United Kingdom

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