I frequently discuss various momentum strategies for longer term traders or investors on my blog, Scott's Investments. More recently, I have begun monitoring various momentum strategies on my blog, for an example of a couple portfolios I track, click here or here.
Several of the portfolios and strategies I track are inspired by Mebane Faber, author of The Ivy Portfolio: How to Invest Like the Top Endowments and Avoid Bear Markets (as an aside, well worth it) and Paul Merriman of Fundadvice.com and author of Live It Up Without Outliving Your Money!: Getting the Most From Your Investments in Retirement.
Many of the strategies are based on 6 month returns and moving averages. However, I recently read a 2004 paper from the Journal of Finance by Thomas J. George and Chuan-Yang Hwang, The 52-Week High and Momentum Investing. The paper is available on Scribd here. An excellent review of the paper is also available at CXOAG Investing here.
Below are some excerpts from the paper. The author's conclusion, and the independent review by CXOAG is that using a 52-week high indicator is superior to other momentum indicators (outside of January, in which they are comparable). Their research was done using stock price data from 1963-2001 and the portfolios were held for 6 months.
George and Hwang state in the paper:
Our most interesting results emerge from head-to-head comparisons of a strategy based on the 52-week high with traditional momentum strategies. We find that nearness to the 52-week high is a better predictor of future returns than are past returns, and that nearness to the 52-week high has predictive power whether or not stocks have experienced extreme past returns. This suggests that price levels are more important determinants of momentum effects than are past price changes.
Traders appear to use the 52-week high as a reference point against which they evaluate the potential impact of news. When good news has pushed a stock’s price near or to a new 52-week high, traders are reluctant to bid the price of the stock higher even if the information warrants it. The information eventually prevails and the price moves up, resulting in a continuation.
CXOAG gives a nice bullet point summary of the paper:
- Based on raw returns across the calendar year, nearness to the 52-week high is comparable to other momentum indicators in forecasting future returns. (See the first table below.) In fact, a large part of the profit from long/short momentum strategies based on past returns comes from stocks whose prices are close to/far from their 52-week highs.
- Proximity to the 52-week high has predictive power whether or not stocks exhibit past return-based momentum, suggesting that price level may be more important than past price change in explaining momentum.
- A 52-week high momentum strategy outperforms other momentum strategies for January-segregated returns. (See the second table below.)
- A 52-week high momentum strategy generates risk-adjusted (for market capitalization and liquidity) returns about twice as large as those associated with other momentum strategies. The outperformance is even larger outside of January.
- Future returns predicted by the 52-week high do not reverse in the long run.
- Results are robust to calculating momentum based on 12 months of past returns rather than six months, and to using 12 months of future returns rather than six months.
Finally, CXOAG concludes "the 52-week high is on average a superior indicator of positive momentum for individual stocks (except for a January reversal)."
How can an individual strategy profit using this strategy? For one, don't depend on it as your sole strategy (for more on that, click here for an article in which I discuss multiple strategies). Secondly, educate yourself: do your own due diligence (CXOAG has updated some of their momentum reviews), backtest strategies and learn from other, professional traders such as those featured at INO TV here or consider using third party screening and trading strategies like those at INO.
If you are comfortable using such a strategy, you could screen for ETFs trading within 3% of their 52-week high. Running that screen today at FINVIZ.com I came up with the following results (no disclosures):
|Ticker||Company||Performance (Year)||YTD||52-Week High|
|(AGG)||iShares Barclays Aggregate Bond||6.57%||1.06%||-0.36%|
|(BIV)||Vanguard Intermediate-Term Bond ETF||6.07%||0.91%||-0.28%|
|(BND)||Vanguard Total Bond Market ETF||6.16%||1.16%||-0.19%|
|(BSV)||Vanguard Short-Term Bond ETF||4.94%||0.10%||-2.18%|
|(BWX)||SPDR Barclays Capital Intl Treasury Bond||6.20%||3.08%||-2.07%|
|(CIU)||iShares Barclays Intermediate Credit Bd||6.69%||9.13%||-0.54%|
|(CMF)||iShares S&P California Municipal Bond||5.40%||6.06%||-0.61%|
|(CSJ)||iShares Barclays 1-3 Year Credit Bond||5.57%||4.82%||-1.15%|
|(CXA)||SPDR Barclays Capital California Muni Bd||4.79%||6.84%||-1.76%|
|(EMB)||iShares JPMorgan USD Emerg Markets Bond||3.05%||6.91%||-1.22%|
|(GVI)||iShares Barclays Interm Govt/Credit Bond||5.41%||0.28%||-0.75%|
|(INY)||SPDR Barclays Capital New York Muni Bond||6.06%||10.80%||-0.80%|
|(JSC)||SPDR Russell/Nomura Small Cap Japan||3.93%||9.25%||-2.65%|
|(LQD)||iShares iBoxx $ Invest Grade Corp Bond||6.71%||4.44%||-1.50%|
|(MUB)||iShares S&P National Municipal Bond||4.42%||4.07%||-1.65%|
|(PCY)||PowerShares Emerging Mkts Sovereign Debt||9.68%||29.07%||-1.78%|
|(PVI)||PowerShares VRDO Tax-Free Weekly||2.17%||0.81%||-1.30%|
|(PWZ)||PowerShares Insured California Muni Bond||0.44%||9.68%||-1.24%|
|(PZA)||PowerShares Insured National Muni Bond||0.84%||10.98%||-1.34%|
|(SHV)||iShares Barclays Short Treasury Bond||0.96%||0.05%||-0.05%|
|(SHY)||iShares Barclays 1-3 Year Treasury Bond||3.32%||-0.12%||-0.32%|
|(TFI)||SPDR Barclays Capital Municipal Bond||6.32%||6.87%||-0.86%|
|(UBD)||Claymore U.S. Capital Markets Bond||4.70%||9.91%||-2.18%|
In the end, no strategy is a magic bullet and most are not successful all of the time. However, the 52-week high strategy is one that shows promise.