Quarterly sector momentum strategy (update)

Do FTSE 350 sectors display a quarterly momentum behaviour that can be exploited?

This analysis updates the performance of two strategies, defined as:

1. Strong quarterly sector momentum strategy (Strong QSMS)

The portfolio comprises just one FTSE 350 sector, that being the sector with the strongest performance in the previous quarter. So at the end of each quarter, the portfolio is liquidated and a 100% holding established in the strongest sector of the quarter just finished. This is held for three months, when the portfolio is liquidated and re-invested in the new sector. Therefore the strategy will trade four times a year.

2. Weak quarterly sector momentum strategy (Weak QSMS)

As above, but in this case it is the weakest sector of the previous quarter that is held by the portfolio. (Strictly, perhaps, this should be called a bounceback, or reversal, strategy and not a momentum strategy.)

Only FTSE 350 sectors with at least three component companies are considered. The period studied was from 2005 to the third quarter 2015.

The accompanying chart compares the performance of the two strategies, and adds the FTSE All Share Index as a benchmark. All series are re-based to start at 100.

Quarterly (strong and weak) sector momentum strategies [2005-2015]

Notes-

  1. As can be seen, both the SMS strategies out-performed the index over the period of the study. However, they did so with greater volatility (the standard deviation of the Strong SMS quarterly returns was 0.11, against comparable figures of 0.13 for the Weak SMS and 0.07 for the FTSE All Share Index).
  2. From 2012 the reversal portfolio (Weak SMS) started strongly out-performing the Strong SMS.
  3. A refinement of the strategy would be to hold the two or three best/worst performing sectors from the previous quarter instead of just the one (which would likely have the effect of reducing volatility).
  4. Costs were not taken into account in the study. But given that the portfolio was only traded four times a year costs would not have had a significant impact on the overall performance.

Extract taken from the newly published The UK Stock Market Almanac 2016.

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Monthly share momentum

Do shares exhibit a momentum effect from one month to the next?

If we selected the best performing shares in one month and created an equally-weighted portfolio of those shares to hold for the following month, would that portfolio out-perform the market index? Or, more interestingly, if we did this systematically every month (i.e. our portfolio each month is comprised of the best performing shares in the previous month), would that portfolio out-perform the market?

The following chart shows the results of operating two such momentum portfolios from 2011-2014:

  1. Port (5): at the end of each month selects the 5 best performing shares and holds these for the following month, re-balancing at the end of each month
  2. Port (10): as above, but the portfolio holds 10 shares each months

Both portfolio values have been re-based to start at 100, as has the FTSE 100 Index included in the chart as a benchmark.

Monthly share momentum portfolios [2010-2014]By mid-2014 the momentum Port (5) would had a value of 176, the momentum Port (10) would had a value of 178, compared with a value of 114 for the FTSE 100.

 

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Quarterly sector reversal strategy

Do FTSE 350 sectors display a quarterly reversal behaviour that can be exploited?

In a recent article we looked at a momentum strategy that aimed to exploit the price momentum of strong sectors from one quarter to the next. This article looks at whether there is a reversal behaviour, i.e. where poor performing sectors in one quarter bounceback the following quarter.

The following chart shows the performance of a portfolio that each quarter is fully invested in one FTSE 350 sector, that being the worst performing sector of the previous quarter. Elsewhere, the portfolio is similar to that of the previous momentum portfolio: at the end of each quarter, the portfolio is liquidated and a 100% holding established in the weakest sector of the quarter just finished. This is held for three months, when the portfolio is re-balanced again. Each year there will therefore be four re-balancings. Only FTSE 350 sectors with at least three component companies are considered. The period studied was from 2003 to the first quarter 2014.

In the chart below the reversal portfolio (Weak SMS) is plotted against the FT All Share Index (FTAS) and also the previous momentum portfolio (Strong SMS) for comparison. The three series are re-based to start at 100.

Quarterly (strong and weak) sector momentum strategies [2003-2013]Notes-

  1. As can be seen, the reversal strategy under-performed for the first few years and then out-performed. The volatility of the portfolio’s quarterly returns (standard deviation of 0.13) was higher than that of either the momentum  portfolio (0.12) or the FTSE All Share Index (0.07).
  2. A refinement of the strategy would be to hold the two or three worst performing sectors from the previous quarter instead of just the one (which would likely have the effect of reducing volatility).
  3. Costs were not taken into account in the study. But given that the portfolio was only traded four times a year, costs would not have had a significant impact on the overall picture.

See also-

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Quarterly sector momentum strategy

Do FTSE 350 sectors display a quarterly momentum behaviour that can be exploited?

The following chart shows the performance of a portfolio that each quarter comprises just one FTSE 350 sector, that being the sector with the strongest performance in the previous quarter.

So at the end of each quarter, the portfolio is liquidated and a 100% holding established in the strongest sector of the quarter just finished. This is held for three months, when the portfolio is re-balanced again. Each year there will therefore be four re-balancings. Only FTSE 350 sectors with at least three component companies are considered. The period studied was from 2003 to the first quarter 2014.

In the chart below the portfolio (Strong SMS) is plotted against the FT All Share Index (FTAS) for comparison – both series are rebased to start at 100.

Quarterly (strong) sector momentum strategy [2003-2013]Notes-

  1. As can be seen, the momentum strategy out-performed the index over the period of the study. However, it did so with greater volatility; the standard deviation of the portfolio’s quarterly returns was 0.12, against a comparable figure of 0.07 for the FTSE All Share Index.
  2. A refinement of the strategy would be to hold the two or three best performing sectors from the previous quarter instead of just the one (which would likely have the effect of reducing volatility).
  3. Costs were not taken into account in the study. But given that the portfolio was only traded four times a year, costs would not have had a significant impact on the overall picture.

See also-

 

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Monthly share momentum

Do shares exhibit a momentum effect from one month to the next?

If we selected the 10 best performing FTSE 100 shares in one month and created an equally-weighted portfolio of those shares to hold for the following month, would that portfolio out-perform the market index?

Or, more interestingly, if we did this systematically for a year (i.e. our portfolio each month is comprised of the 10 best performing shares in the previous month), would that portfolio out-perform the FTSE 100 Index?

The chart below shows the result of operating such a momentum portfolio in 2011. Each bar represents the out-performance of the portfolio over the FTSE 100 Index. For example, in February the 10-share portfolio would have increased 6.2% against a FTSE 100 increase of 2.2%, giving an out-performance of 4.0.

FTSE 100 monthly share momentum portfolio - 2011

Over the year, the portfolio would have out-performed the index by an average 1.1 percentage points each month. At the end of the year the portfolio would have increased 10.3% on its starting value, while the FTSE 100 index fell 3.1% over the same period.

The chart below illustrates the result of operating such a portfolio in 2010.

FTSE 100 monthly share momentum portfolio - 2010

This time the average monthly out-performance of the portfolio over the FTSE 100 Index would have been 0.9%.

Note: An academic paper[1] published in 2001 looked at momentum trading strategies in the UK stock market. Although it identified several profitable strategies it found that momentum effects were not consistent and therefore the returns on the strategies were dependent on the period over which the strategies were applied.


[1] Hon, M., Tonks, I., “Momentum in the UK Stock Market“, 2001

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