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Profitable momentum trading strategies for individual investors

  • Bryan FolticeEmail author
  • Thomas Langer
Article

Abstract

For nearly three decades, scientific studies have explored momentum investing strategies and observed stable excess returns in various financial markets. However, the trading strategies typically analyzed in such research are not accessible to individual investors due to short selling constraints, nor are they profitable due to high trading costs. Incorporating these constraints, we explore a simplified momentum trading strategy that only exploits excess returns from topside momentum for a small number of individual stocks. Building on US data from the New York Stock Exchange from July 1991 to December 2010, we analyze whether such a simplified momentum strategy outperforms the benchmark after factoring in realistic transaction costs and risks. We find that the strategy can indeed work for individual investors with initial investment amounts of at least $5,000. In further attempts to improve this practical trading strategy, we analyze an overlapping momentum trading strategy consisting of a more frequent trading of a smaller number of “winner” stocks. We find that increasing the trading frequency initially increases the risk-adjusted returns of these portfolios up to an optimal point, after which excessive transaction costs begin to dominate the scene. In a calibration study, we find that, depending on the initial investment amount of the portfolio, the optimal momentum trading frequency ranges from bi-yearly to monthly.

Keywords

Momentum investing Personal finance Portfolio management 

JEL Classification

G11 G12 G14 

Notes

Acknowledgments

We would like to thank the anonymous referee for the valuable comments on an earlier draft of this paper. We are also indebted to the participants of the Finance Center Münster econometrics research seminar at the University of Münster for their helpful comments and insights.

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Copyright information

© Swiss Society for Financial Market Research 2015

Authors and Affiliations

  1. 1.Finance Center MünsterUniversity of MünsterMünsterGermany

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