Live Performance Of A Momentum-Based Strategy

by: Sergey Gorshunov

Many SA community members read investment books on a constant basis and enjoy different theories and conceptions. Some reading might be indeed captivating, while some of the books state simple truisms and bear no insights. However, all the recent publications lack one very important thing - live statistical results to prove or refute their theories.

We need to ask ourselves whether the theory was created just to bring food for thought; moreover, will the model work in the modern, constantly changing environment?

I decided to bring these semi-entertaining things to more practical field. All the theories lead to one thing - the stock picking. So, on a basis of every theoretical statement, I've modeled a stock portfolio and want to share it with the SA community.

The book I am going to start with is "The Little Book of Stock Market Profits" by Mitch Zacks. Overall, it is the perfect book for the stock market novice and I highly recommend it to everyone who has a long term portfolio.

When you start with any online broker you are offered plenty of courses, such as "trading essentials in 15 minutes" and the like. Most of the attention in those courses is paid for technical indicators. At the same time we still don't have any proof of performance for any of the indicators.

The book, instead of trading on technical indicators, is centered on value investors. With plain and simple language the author introduces several market phenomena that can be employed simply, as each of the phenomena generates a trading strategy. Namely:

  • Following analyst recommendations,
  • Momentum based strategies,
  • Following insider strategy.

So I took my naive approach and decided to model portfolios based on the theories, one by one.

The most commonly used (and probably the simplest to model) is the so called momentum-based strategy. I don't think the strategy needs any special introduction for the SA community, but in short it is based on the assumption that if any given stock has been climbing for some time, it will do so for another period of time. The author writes:

  1. Momentum clearly seems to work better on the long side than on the short side.
  2. Results can be obtained by buying stocks that trade near their 52-week highs (I took 10% or nearer).
  3. Momentum strategies seem to work better among stocks with low volume-the same types of stocks that are either neglected by institutions or, alternatively, held by individuals. (My criteria: Inst. ownership less than 30%.)
  4. Momentum strategy works better with mid cap stocks.
  5. Look for mid-cap stocks and hold the portfolio for about a quarter.

Armed with such clear instructions, I've got the following results:

AllianceBernstein Holding L.P. (NYSE:AB)

Alliance Holdings GP,L.P. (NASDAQ:AHGP)

AmeriGas Partners LP (NYSE:APU)

ARMOUR Residential REIT, Inc. (NYSE:ARR)

BOK Financial Corporation (NASDAQ:BOKF)

Calumet Speciality Products Partners LP (NASDAQ:CLMT)

Cheniere Energy Partners LP (NYSEMKT:CQP)

CVR Energy Inc. (NYSE:CVI)

DNP Select Income Fund Inc. (NYSE:DNP)

Eaton Vance Limited Duration Fund (NYSEMKT:EVV)

Eaton VanceTax-Managed Global (NYSE:EXG)

Forest City Enterprises, Inc. (FCE-A)

Fifth Street Finance Corp. (NYSE:FSC)

Kayne Anderson MLP Investment Company (NYSE:KYN)

Linn Energy,LLC (LINE)

Newcastle Investment Corp. (NCT)

Inergy Midstream LLC (NRGM)

Natural Resource Partners LP (NYSE:NRP)

Nuveen Municipal Value Fund, Inc. (NYSE:NUV)

Opko Health,Inc. (NYSEMKT:OPK)

PetroLogistics LP (NYSE:PDH)


Seaboard Corp. (NYSEMKT:SEB)

Sauer-Danfoss Inc. (NYSE:SHS)

Suburban Propane Partners LP (NYSE:SPH)

TFS Financial Corp (NASDAQ:TFSL)

Titanium Metals Corporation (TIE)


Western Gas Equity Partners, LP (NYSE:WGP)

W.P.Carey & Co. LLC (NYSE:WPC)

Note: The screening was performed on Feb. 28, 2013.

What do the stocks have in common? Most of them offer medium to large dividends with the average rate of 6.8%. It is even more interesting as we are accustomed to oppose dividend and growth stocks. Almost half (13 out of 31) belong to the Financial sector, and one third from the Basic Materials sector. Almost half, again, enjoy healthy gross and operating margins of more than 50%.

To see the live performance of the Momentum based portfolio, click here.

As of March 11, the Momentum based portfolio has underperformed all the major benchmark indexes.

%Total Return:

  • Momentum based: 2.19
  • S&P: 2.7
  • S&P 400 Midcap: 2.62
  • Russell Midcap: 3.02

It is too early to draw a final conclusion and we can only guess on the possible drawback factors. However, one possible explanation lies on the surface: almost all underperformers are from the much depressed Utilities and Basic Materials sectors. Both sectors have underperformed for the past 3 and 6 months, and the stocks from these two sectors have negative average return in the portfolio. Instead, the average return of the stocks of the Financial sector have outperformed almost all the benchmarks. Indeed, Momentum based portfolio probably only works well in academic environments. In reality we need to take into consideration economic factors, as well as possibly combining the strategy with another. Having said all that, I would like to offer to Mr. Zacks adding the fifth point to his algorithm: Eliminate stocks from the sectors that have underperformed for the past 3 and 6 months.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

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