# Trading strategies based on past returns: evidence from Germany

- 374 Downloads

## Abstract

Among the various strategies studied in this paper, only momentum investing appears to earn persistently nonzero returns: From 1965 to 2014, the classical momentum strategy based on performance over the previous 2–12 months earned an average return of 1.57% per month (excluding microcap stocks and value-weighted returns). In the most recent 10-year period, this return was even larger—2.27%—which is much larger than in the USA. However, profitability net of transaction costs is weak because the strategy involves trading in disproportionately small stocks with high transaction costs, something that is particularly true for the loser portfolio. A strategy that concentrates only on the winner portfolio and thus avoids potential problems associated with (short) selling the costly loser portfolio appears to earn strong and persistently abnormal profits, even after transaction costs.

## Keywords

Momentum Stock reversal Contrarian Transaction costs Predictability## JEL Classification

G11 G12## Notes

### Acknowledgements

I am grateful for the valuable comments received from Richard Stehle, Joachim Gassen, an anonymous referee, and seminar participants at University of Potsdam and Humboldt University. Datastream data were obtained through the RDC of CRC 649 “Economic Risk” at Humboldt University Berlin.

## References

- Ammann, M., Moellenbeck, M., Schmid, M.: Feasible momentum strategies in the US stock market. J. Asset Manag.
**11**(6), 362–374 (2011)Google Scholar - Artmann, S., Finter, P., Kempf, A., Koch, S., Theissen, E.: The cross-section of German stock returns: new data and new evidence. Schmalenbach Bus. Rev.,
**64**, 20–43. Data available at https://doi.org/www.cfr-cologne.de/ (2012) - Asness, C.S., Moskowitz, T.J., Pedersen, L.H.: Value and momentum everywhere. J. Finance
**68**(3), 929–985 (2013)Google Scholar - Asness, C.S., Frazzini, A., Israel, R., Moskowitz, T.J.: Fact, fiction and momentum investing. J. Portf. Manag.
**40**(5), 75–92 (2014)Google Scholar - Atkins, A.B., Dyl, E.A.: Price reversals, bid–ask spreads, and market efficiency. J. Financ. Quant. Anal.
**25**(4), 535–547 (1990)Google Scholar - August, R., Schiereck, D., Weber, M.: Momentumstrategien am deutschen Aktienmarkt: Neue empirische Evidenz zur Erklärung des Erfolgs. Kredit und Kapital
**33**(2), 198–234 (2000)Google Scholar - Avramov, D., Chordia, T., Goyal, A.: Liquidity and autocorrelations in individual stock returns. J. Finance
**61**(5), 2365–2394 (2006)Google Scholar - Avramov, D., Chordia, T., Jostova, G., Philipov, A.: Momentum and credit rating. J. Finance
**62**(5), 2503–2520 (2007)Google Scholar - Ball, R., Kothari, S.P., Shanken, J.: Problems in measuring portfolio performance: an application to contrarian investment strategies. J. Financ. Econ.
**38**(1), 79–107 (1995)Google Scholar - Baltzer, M., Jank, S., Smajlbegovic, E.: Who Trades on Momentum?
*Deutsche Bundesbank Discussion Paper*42/2014. Available at SSRN: https://doi.org/ssrn.com/abstract=2517462 (2015) - Barber, B.M., Lyon, J.D.: Detecting long-run abnormal stock returns: the empirical power and specification of test statistics. J. Financ. Econ.
**43**(3), 341–372 (1997)Google Scholar - Barberis, N., Shleifer, A., Vishny, R.: A model of investor sentiment. J. Financ. Econ.
**49**(3), 307–343 (1998)Google Scholar - Barroso, P., Santa-Clara, P.: Momentum has its moments. J. Financ. Econ.
**116**(1), 111–120 (2015)Google Scholar - Bohl, M.T., Czaja, M.-G., Kaufmann, P.: Momentum profits, market cycles, and rebounds: evidence from Germany. Q. Rev. Econ. Finance
**61**, 139–159 (2016)Google Scholar - Bromann, O., Schiereck, D., Weber, M.: Reichtum durch (anti-) zyklische Handelsstrategien am deutschen Aktienmarkt? Zeitschrift für betriebswirtschaftliche Forschung
**49**, 603–616 (1997)Google Scholar - Brückner, R.: Important characteristics, weaknesses and errors in German equity data from Thomson Reuters datastream and their implications for the size, Working Paper. Available at SSRN: https://doi.org/ssrn.com/abstract=2243816 (2013)
- Brückner, R., Lehmann, P., Schmidt, M. H., Stehle, R.: Another German Fama and French factor data set, Working Paper. Humboldt University, Berlin (2015a)Google Scholar
- Brückner, R., Lehmann, P., Schmidt, M. H., Stehle, R.: Non-U.S. multi-factor data sets should be used with caution, Working Paper. Available at SSRN: https://doi.org/ssrn.com/abstract=2390063 (2015b)
- Carhart, M.M.: On persistence in mutual fund performance. J. Finance
**52**(1), 57–82 (1997)Google Scholar - Chan, L.K.C., Jegadeesh, N., Lakonishok, J.: Momentum strategies. J. Finance
**51**(5), 1681–1713 (1996)Google Scholar - Chan, L.K.C., Jegadeesh, N., Lakonishok, J.: The profitability of momentum strategies. Financ. Anal. J.
**55**(6), 80–90 (1999)Google Scholar - Chen, Z., Stanzl, W., Watanabe, M.: Price impact costs and the limit of arbitrage, EFA 2002 Berlin Meetings Presented Paper, Yale ICF Working Paper 00-66. Available at SSRN: https://doi.org/ssrn.com/abstract=302065 (2002)
- Chui, A.C.W., Titman, S., Wei, K.C.J.: Momentum, legal systems and ownership structure: an analysis of Asian stock markets, Working Paper, University of Texas, Austin (2003)Google Scholar
- Chui, A.C.W., Titman, S., Wei, K.C.J.: Individualism and momentum around the world. J. Finance
**65**(1), 361–392 (2010)Google Scholar - Conrad, J., Kaul, G.: Long-term market overreaction or biases in computed returns? J. Finance
**48**(1), 39–63 (1993)Google Scholar - Conrad, J., Gultekin, M.N., Kaul, G.: Profitability of short-term contrarian strategies: implications for market efficiency. J. Bus. Econ. Stat.
**15**(3), 379–386 (1997)Google Scholar - Corwin, S.A., Schultz, P.: A simple way to estimate bid–ask spreads from daily high and low prices. J. Finance
**67**(2), 719–760 (2012)Google Scholar - Daniel, K.D., Hirshleifer, D., Subrahmanyam, A.: Investor psychology and security market under-and overreactions. J. Finance
**53**(6), 1839–1885 (1998)Google Scholar - Daniel, K.D., Titman, S.: Market efficiency in an irrational world. Financ. Anal. J.
**55**(6), 28–40 (1999)Google Scholar - Daniel, K. D., Moskowitz, T. J.: Momentum crashes, Swiss Finance Institute Research Paper 13–61, Columbia Business School Research Paper 14–6, Fama–Miller Working Paper. Available at SSRN: https://doi.org/ssrn.com/abstract=2371227 (2013)
- Daske, S.: Winner–Loser-Effekte am deutschen Aktienmarkt, Working Paper. Available at https://doi.org/edoc.hu-berlin.de/series/sfb-373-papers/2-87/PDF/87.pdf (January 6, 2015) (2002)
- De Bondt, W.F.M., Thaler, R.H.: Does the stock market overreact? J. Finance
**40**(3), 793–808 (1985)Google Scholar - De Bondt, W.F.M., Thaler, R.H.: Further evidence on investor overreaction and stock market seasonality. J. Finance
**42**(3), 557–581 (1987)Google Scholar - De Groot, W., Huij, J., Zhou, W.: Another look at trading costs and short-term reversal profits. J. Bank. Finance
**36**(2), 371–382 (2012)Google Scholar - Erb, C.B., Harvey, C.R.: The Strategic and tactical value of commodity futures. Financ. Anal. J.
**62**(2), 69–97 (2006)Google Scholar - Fama, E.F.: Market efficiency, long-term returns, and behavioral finance. J. Financ. Econ.
**49**(3), 283–306 (1998)Google Scholar - Fama, E.F., French, K.R.: Common risk factors in the returns on stocks and bonds. J. Financ. Econ.
**33**(1), 3–56 (1993)Google Scholar - Fama, E.F., French, K.R.: Multifactor explanations of asset pricing anomalies. J. Finance
**51**(1), 55–84 (1996)Google Scholar - Fama, E.F., French, K.R.: Dissecting anomalies. J. Finance
**63**(4), 1653–1678 (2008)Google Scholar - Fama, E.F., MacBeth, J.D.: Risk, return, and equilibrium: empirical tests. J. Polit. Econ.
**81**(3), 607–636 (1973)Google Scholar - Foltice, B., Langer, T.: Profitable momentum trading strategies for individual investors. Fin. Mark. Portf. Manag.
**29**(2), 85–113 (2015)Google Scholar - Franz, F.-C., Regele, T.: Beating the DAX, MDAX, and SDAX: investment strategies in Germany. Fin. Mark. Portf. Manag.
**30**(2), 161–204 (2016)Google Scholar - Frazzini, A., Israel, R., Moskowitz, T. J.: Trading costs of asset pricing, Fama–Miller Working Paper, Chicago Booth Research Paper 14–05. Available at SSRN: https://doi.org/ssrn.com/abstract=2294498 (2012)
- French, K.R.: Stock returns and the weekend effect. J. Financ. Econ.
**8**(1), 55–69 (1980)Google Scholar - Gárleanu, N., Pedersen, L.H.: Dynamic trading with predictable returns and transaction costs. J. Finance
**68**(6), 2309–2340 (2013)Google Scholar - George, T.J., Hwang, C.-Y.: The 52-week high and momentum investing. J. Finance
**59**(5), 2145–2176 (2004)Google Scholar - Glaser, M., Weber, M.: Momentum and turnover: evidence from the German stock market. Schmalenbach Bus. Rev.
**55**, 108–135 (2003)Google Scholar - Gong, Q., Liu, M., Liu, Q.: Momentum is Really short-term momentum. J. Bank. Finance
**50**(C), 169–182 (2015)Google Scholar - Goyal, A., Wahal, S.: Is momentum an echo? J. Financ. Quant. Anal.
**50**(6), 1237–1267 (2015)Google Scholar - Griffin, J.M., Ji, X., Martin, J.S.: Momentum investing and business cycle risk: evidence from pole to pole. J. Finance
**58**(6), 2515–2547 (2003)Google Scholar - Griffin, J.M., Ji, X., Martin, J.S.: Global momentum strategies: a portfolio perspective. J. Portf. Manag.
**31**(2), 23–50 (2005)Google Scholar - Grinblatt, M., Han, B.: Prospect theory, mental accounting, and momentum. J. Financ. Econ.
**78**(2), 311–339 (2005)Google Scholar - Grinblatt, M., Moskowitz, T.J.: Predicting stock price movements from past returns: the role of consistency and tax-loss selling. J. Financ. Econ.
**71**, 541–579 (2004)Google Scholar - Grundy, B.D., Martin, J.S.: Understanding the nature of the risks and the source of the rewards to momentum investing. Rev. Financ. Stud.
**14**(1), 29–78 (2001)Google Scholar - Hameed, A., Kusnadi, Y.: Momentum strategies: evidence from Pacific Basin stock markets. J. Financ. Res.
**25**(3), 383–397 (2002)Google Scholar - Heston, S.L., Sadka, R.: Seasonality in the cross-section of stock returns. J. Financ. Econ.
**87**(2), 418–445 (2008)Google Scholar - Heston, S.L., Sadka, R.: Seasonality in the cross section of stock returns: the international evidence. J. Financ. Quant. Anal.
**45**(5), 1133–1160 (2010)Google Scholar - Hillert, A., Jacobs, H., Müller, S.: Media makes momentum. Rev. Financ. Stud.
**27**(12), 3467–3501 (2014)Google Scholar - Hon, M.T., Tonks, I.: Momentum in the UK stock market. J. Multinatl. Financ. Manag.
**13**(1), 43–70 (2003)Google Scholar - Hong, H., Stein, J.C.: A unified theory of underreaction, momentum trading, and overreaction in asset markets. J. Finance
**54**(6), 2143–2184 (1999)Google Scholar - Hong, H., Lim, T., Stein, J.C.: Bad news travels slowly: size, analyst coverage, and the profitability of momentum strategies. J. Finance
**55**(1), 265–295 (2000)Google Scholar - Hwang, S., Rubesam, A.: The disappearance of momentum. Eur. J. Finance
**21**(7), 584–607 (2015)Google Scholar - Jegadeesh, N.: Evidence of predictable behavior of security returns. J. Finance
**45**(3), 881–898 (1990)Google Scholar - Jegadeesh, N., Titman, S.: Returns to buying winners and selling losers: implications for stock market efficiency. J. Finance
**48**(1), 65–91 (1993)Google Scholar - Jegadeesh, N., Titman, S.: Short-horizon return reversals and the bid–ask spread. J. Financ. Intermed.
**4**(2), 116–132 (1995)Google Scholar - Jegadeesh, N., Titman, S.: Profitability of momentum strategies: an evaluation of alternative explanations. J. Finance
**56**(2), 699–720 (2001)Google Scholar - Jegadeesh, N., Titman, S.: Momentum, Working Paper. Available at SSRN: https://doi.org/ssrn.com/abstract=1919226 (2011)
- Jensen, M.C.: The performance of mutual funds in the period 1945–1965. J. Finance
**23**(2), 389–416 (1968)Google Scholar - Kaul, G., Nimalendran, M.: Price reversals: bid–ask errors or market overreaction? J. Financ. Econ.
**28**(1–2), 67–93 (1990)Google Scholar - Keim, D.: Size-related anomalies and stock return seasonality: further empirical evidence. J. Financ. Econ.
**12**(1), 13–32 (1983)Google Scholar - Keloharju, M., Linnainmaa, J.T., Nyberg, P.M.: Return seasonalities, Chicago Booth Research Paper 13-15; Fama–Miller Working Paper. Available at SSRN: https://doi.org/ssrn.com/abstract=2224246 (2015)
- Korajczyk, R.A., Sadka, R.: Are momentum profits robust to trading costs? J. Finance
**59**(3), 1039–1082 (2004)Google Scholar - Külpmann, M.: Irrational Exuberance Reconsidered: The Cross Section of Stock Returns, 2nd edn. Springer, Berlin (2004)Google Scholar
- Lee, C.M.C., Swaminathan, B.: Price momentum and trading volume. J. Finance
**55**(5), 2017–2069 (2000)Google Scholar - Lehmann, B.N.: Fads, martingales, and market efficiency. Q. J. Econ.
**105**(1), 1–28 (1990)Google Scholar - Lesmond, D.A., Ogden, J.P., Trzcinka, C.A.: A new estimate of transaction costs. Rev. Financ. Stud.
**12**(5), 1113–1141 (1999)Google Scholar - Lesmond, D.A., Schill, M.J., Zhou, C.: The illusory nature of momentum profits. J. Financ. Econ.
**71**(2), 349–380 (2004)Google Scholar - Liu, C., Lee, Y.: Does the momentum strategy work universally? Evidence from the Japanese stock market. Asia-Pac. Financ. Markets
**8**(4), 321–339 (2001)Google Scholar - Lo, A.W., MacKinlay, A.C.: Data-snooping biases in tests of financial asset pricing models. Rev. Financ. Stud.
**3**(3), 431–467 (1990)Google Scholar - Lobe, S., Rieks, J.: Short-term market overreaction on the Frankfurt stock exchange. Q. Rev. Econ. Finance
**51**, 113–123 (2011)Google Scholar - Meyer, B.: Die langfristige Performance von “Gewinner-” und “Verlierer”-Aktien am deutschen Aktienmarkt. Finanzmarkt und Portfolio-Management
**9**(1), 61–80 (1995)Google Scholar - Mitchell, M.L., Stafford, E.: Managerial decisions and long-term stock price performance. J. Bus.
**73**(3), 287–329 (2000)Google Scholar - Moskowitz, T.J., Grinblatt, M.: Do industries explain momentum? J. Finance
**54**(4), 1249–1290 (1999)Google Scholar - Moskowitz, T.J., Ooi, Y.H., Pedersen, L.H.: Time series momentum. J. Financ. Econ.
**104**(2), 228–250 (2012)Google Scholar - Novy-Marx, R.: Is momentum really momentum? J. Financ. Econ.
**103**(3), 429–453 (2012)Google Scholar - Novy-Marx, R., Velikov, M.: A taxonomy of anomalies and their trading costs, NBER Working Paper 20721. Available at SSRN: https://doi.org/ssrn.com/abstract=2535173 (2014)
- Okunev, J., White, D.: Do momentum-based strategies still work in foreign currency markets? J. Financ. Quant. Anal.
**38**(2), 425–447 (2003)Google Scholar - Rey, D.M., Schmid, M.M.: Feasible momentum strategies: evidence from the Swiss stock market. Fin. Mark. Portf. Manag.
**21**(3), 325–352 (2007)Google Scholar - Roll, R.: A simple implicit measure of the effective bid–ask spread in an efficient market. J. Finance
**39**, 1127–1139 (1984)Google Scholar - Rouwenhorst, K.G.: International momentum strategies. J. Finance
**53**(1), 267–284 (1998)Google Scholar - Rozeff, M.S., Kinney Jr., W.R.: Capital market seasonality: the case of stock returns. J. Financ. Econ.
**3**(4), 379–402 (1976)Google Scholar - Sattler, R.R.: Renditeanomalien am deutschen Aktienmarkt. Dissertation, Aachen, Shaker (1994)Google Scholar
- Schiereck, D., Weber, M.: Zyklische und antizyklische Handelsstrategien am deutschen Aktienmarkt. Zeitschrift für betriebswirtschaftliche Forschung
**47**, 3–24 (1995)Google Scholar - Schiereck, D., De Bondt, W., Weber, M.: Contrarian and momentum strategies in Germany. Financ. Anal. J.
**55**(6), 104–116 (1999)Google Scholar - Schwert, G.W.: Anomalies and market efficiency. In: Constantinides, G.M., Harris, M., Stulz, R.M. (eds.) Handbook of the Economics of Finance, part B, vol. 1, pp. 939–974. Elsevier, New York (2003)Google Scholar
- Siganos, A.: Can small investors exploit the momentum effect? Fin. Mark. Portf. Manag.
**24**(2), 171–192 (2010)Google Scholar - Stehle, R., Hartmond, A.: Durchschnittsrenditen deutscher Aktien 1954–1988. Kredit und Kapital
**24**(3), 371–411 (1991)Google Scholar - Stehle, R., Schmidt, M.H.: Returns on German stocks 1954–2013. Credit and Capital Markets Kredit und Kapital
**48**(3), 427–476 (2015)Google Scholar - Stock, D.: Winner and loser anomalies in the German stock market. J. Inst. Theor. Econ.
**146**(3), 518–529 (1990)Google Scholar - Stoll, H.R., Whaley, R.E.: Transaction costs and the small firm effect. J. Financ. Econ.
**12**(1), 57–79 (1983)Google Scholar - Thomas, S.: Discussion of short sales constraints and momentum in stock returns. J. Bus. Finance Accout.
**33**(3), 616–631 (2006)Google Scholar - Wang, J., Wu, Yangru: Risk adjustment and momentum sources. J. Bus. Finance
**35**(6), 1427–1435 (2011)Google Scholar - Yao, Y.: Momentum, contrarian, and the january seasonality. J. Bank. Finance
**36**(10), 2757–2769 (2012)Google Scholar - Zarowin, P.: Size, seasonality, and the stock market overreaction. J. Financ. Quant. Anal.
**25**(1), 113–125 (1990)Google Scholar