Market-State Dependent Momentum Strategies: An Empirical Examination of Anomalies in Asset Pricing

Abstract

This study examines the profitability of a market-state dependent momentum-reversal strategy and its implications for asset pricing anomalies. Utilizing a dataset spanning 1940 to 2023 from the Center for Research in Security Prices (CRSP), we construct a dynamic trading strategy that switches between momentum and reversal regimes based on market conditions. The empirical results demonstrate that the strategy consistently generates significant abnormal returns, challenging the weak-form Efficient Market Hypothesis (EMH). Factor model regressions against the Fama-French five-factor model, along with additional momentum and long-term reversal factors, confirm that the strategy captures return patterns unexplained by conventional risk-based models. The findings align with behavioral finance theories, suggesting that investor biases and structural market constraints contribute to sustained price trends and reversals. While the study highlights the robustness of a conditional momentum strategy, limitations such as transaction costs and market frictions require further exploration. These results contribute to the broader discussion on market efficiency and the dynamic nature of asset pricing anomalies, offering practical insights for quantitative investors and portfolio managers.

Keywords: Market-State Dependent Momentum, Momentum Reversal, Asset Pricing Anomalies, Dynamic Trading Strategy, Conditional Investment Strategies, Factor Models