Momentum Investment Paper Example

Introduction

Momentum involves value strategy and value of an investment which many investors use in the diversification of risk to get the maximum return on their investment. However, momentum indeed has its moment since it experiences some setback such crashes which necessitate investors who dislike negative skewness or kurtosis to be wary of this fact. Momentum has a comprehensive coverage, encompassing new emerging markets, commodities, currency industry across all other asset classes (Grinblatt, M. & Titman, S. 1993. 51). The theoretical motivation, to the investors and other stakeholders about the article, is that remarkable performance associated with momentum comes with occasional crashes.

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For instance, in 1992, the difference between the winners and the loser's strategy revealed a -91.59% return in just two months. However, in 2009, momentum experienced a massive crash of -73.42% in three months. These crashes are hard to recover even to reasonable investors who are risk averse (Grandy, B. & Martin, J. 2001. 44). Hence investors should be vigilant enough and expect crashes at any time and take reasonable and necessary steps to compensate for the crashes. This is because crashes take decades to be compensated. Investors should, therefore, opt to hedge to stabilize the momentum, especially in varying market exposures. Hence, another theoretical motivation to investors is that management of risk not only will avoid and mitigate worst and unexpected market crashes, but also enhances the shape of the ratio in the months that crashes are absent (Jagadees, N. & Titman S. 1993. 67).

A critical factor revolves around risk management. This entails management of risk with time variances since it works out for many investors as compared to time variance betas. The underlying reason for this is that the market component only constitutes about 23% of the total risk on average. These render the majority of the risk of about 77% to be specific risk associated with the momentum (Lesmand, D & Zhou, C. 2004. 351). Notably, a specific risk is more persistent to investors besides being predictable. In summary, after the previous performance of momentum, some can argue that momentum is a dead anomaly, but in a real sense, it is not hence this should be a motivation. This is because, the past performance has been due to the fact that, the previous year's say 10 years, were rich in kind of high-risk episodes which resulted in a dismal performance of the momentum (Markowitz, T. & Grinblatt, M. 1999. 1267).

Key Findings

The key finding of the paper is that momentum is exposed to unexpected or unplanned market crashes which can take decades to compensate. This mostly occur in the long run, when an investor has received previous returns on investors and have no knowledge about the sudden crashes (Menkhoff, L., Sarno, L., Schmeling, M. &Schrempf, A. 2012. 621) Another key finding revolves around, the risk associated with the momentum which varies significantly in a practicable pattern over time. Moreover, it is critical to know that momentum can be managed.

Managing of the risk associated with momentum makes a significant difference to an investor in situations of uncertainty. For an investor to achieve the goal of risk management to gain information about the pattern of momentum in the future, he or she should analyze the performance of risk managed momentum indifferent circumstances associated with both economic and financial situations. Importantly, risk management is capable of mitigating excess kurtosis hence it is essential for existing and potential investor to consider this risk management as a critical factor in momentums (Okunev, J. &White, D. 2003. 440).

Possible suggestions

Momentum investment has previously worked well, but recently, market crashes have been a great headache to many investors since it is associated with high uncertainty hence affecting investors return negatively. The paper has not defined adequate strategies on how momentum could be improved. The momentum reversal has been on the news and investors need to be familiar with the following two strategies to enhance their investments in the momentum. First, the investors should realize that momentum works on its own, and it is popular across the globe since it has worked well previously for every investor. Investors should opt for a strategy of investing in the best group which is 10% of the market of various stocks which will enable them to receive excess return annually of about 14.4%. Another strategy for improving the momentum investment is by using value (Rouwenhorst, K., 1998. 269).

Value and momentum have been proven to work well. This necessitates an investor to invest in reputable companies with high quality earnings. Notably, the simplest way for an investor to identify quality earning of a company is to identifying and analyzing non-cash earnings of the corporation. The suitable criteria for analysis reveal that the fewer the non-cash gains of a corporation, the better for the investor.Possible avenues for future research

The market crashes involving momentums are highly unpredictable and associated with considerable uncertainty for investors. This call fall adequate research on predicting the behavior of the market crashes so that investors can act rationally on their investments and not experience a negative return on their investment. Moreover, research on the probability of stock return on momentum strategy should also be on course

References

Grinblatt, M., Titman, S., 1993.Performance measurement without benchmarks: an examination of mutual fund returns. Journal of Business 66, 47-68.

Grundy, B., Martin, J., 2001. Understanding the nature of the risks and the source of the rewards to momentum investing.ReviewofFinancialStudies14, 29-78.

Jegadeesh, N., Titman, S., 1993.Returns to buying winners and selling losers: implications for stock market efficiency.JournalofFinance48, 65-91.

Lesmond, D., Schill, M., Zhou, C., 2004.The illusory nature of momentum profits. JournalofFinancialEconomics71, 349-380.

Markowitz, T., Grinblatt, M., 1999. Do industries explain momentum? Journal of Finance 54, 1249-1290

Menkhoff, L., Sarno, L., Schmeling, M., Schrimpf, A.,2012.Currency momentum strategies.JournalofFinancialEconomics106,620-684.

Okunev,J.,White,D.,2003.Domomentum based strategies still work in foreign currency markets? Journal of Financial and Quantitative Analysis38,425-447.

Rouwenhorst, K., 1998.International momentum strategies. Journal of Finance 53,267-284.Rouwenhorst, K., 1999.Local return factors and turnover in emerging stock markets. JournalofFinance54, 1439-1464.