The Vanishing Abnormal Returns of Momentum Strategies and 'Front-Running' Momentum Strategies

Abstract

We find large variations in returns from momentum strategies. Momentum strategies did not earn significant returns during the period of 1993-2004 which was due to their poor performance over the period from 2001-2004. We find that the previously documented large firm momentum effect is sensitive to the momentum strategy examined, and is in our sample driven by the abnormal returns of large Nasdaq stocks. We also evaluate momentum strategies that do not adhere to the end of month portfolio formation universally used in the academic literature. To this end we form portfolios one week prior to the end of month and call them 'front-running' momentum portfolios. Consistent with institutional momentum trading affecting end of month returns and volatility, we find that 'front-running' a momentum strategy generates similar, but less volatile returns than the month-end strategy. Pertinently, the returns of a 'front-running' strategy are consistently less volatile than that of an equivalent month-end strategy.

Keywords: Momentum portfolio, front-running, abnormal return, portfolio selection

JEL Classification: G11, G10