Quantitative Momentum Research: Short-Term Return Reversal

/Quantitative Momentum Research: Short-Term Return Reversal

Quantitative Momentum Research: Short-Term Return Reversal

By | 2017-08-18T16:58:24+00:00 January 14th, 2015|Momentum Investing Research|8 Comments
Print Friendly, PDF & Email
(Last Updated On: August 18, 2017)

Fads, Martingales, and Market Efficiency


Predictable variation in equity returns might reflect either (1) predictable changes in expected returns or (2) market inefficiency and stock price “overreaction.” These explanations can be distinguished by examining returns over short time intervals since systematic changes in fundamental valuation over intervals like a week should not occur in efficient markets. The evidence suggests that the “winners” and “losers” one week experience sizable return reversals the next week in a way that reflects apparent arbitrage profits which persist after corrections for bid-ask spreads and plausible transactions costs. This probably reflects inefficiency in the market for liquidity around large changes.

Core Idea:

Lehmann(1990) rejects the efficient markets hypothesis (EMH) by pointing out that stock prices exhibit short-term intervals (weekly horizon).

Lehmann(1990) shows there are short-term arbitrage opportunities using momentum. The main findings are as follows:

  1. “Winners” and “Losers” experience sizable return reversals the next week.
    • Table II shows that portfolios of securities that had positive returns (winners) in the prior week typically had negative returns in the next week (-0.35% to -0.55% per week on average), while those with negative returns (losers) in the prior week typically had positive returns in the next week (0.86% to 1.24% per week on average).
  2. “Contrarian strategies” (buying past losers and selling past winners) generate abnormal returns of over 2% per month.
2014-11-12 15_02_49-Momentum academic Research recap_V01.pptx - Microsoft PowerPoint (Product Activa

The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged, do not reflect management or trading fees, and one cannot invest directly in an index. Additional information regarding the construction of these results is available upon request.

Overall, Lehmann (1990) believes that investors’ cognitive bias lead to market inefficiency and short-term return reversals.

Similar with Lehmann (1990), Jegadeesh (1990) also demonstrates the short-term reversal effect (monthly horizon).

This finding (and Jegadeesh 1990) is why academics generally use 2-12 momentum (last 12-month returns, excluding the previous month) when examining intermediate-term momentum (last 12-month returns) effect on stock prices.

  • The views and opinions expressed herein are those of the author and do not necessarily reflect the views of Alpha Architect, its affiliates or its employees. Our full disclosures are available here. Definitions of common statistics used in our analysis are available here (towards the bottom).
  • Join thousands of other readers and subscribe to our blog.
  • This site provides NO information on our value ETFs or our momentum ETFs. Please refer to this site.

About the Author:

Jack Vogel, Ph.D., conducts research in empirical asset pricing and behavioral finance, and is a co-author of DIY FINANCIAL ADVISOR: A Simple Solution to Build and Protect Your Wealth. His dissertation investigates how behavioral biases affect the value anomaly. His academic background includes experience as an instructor and research assistant at Drexel University in both the Finance and Mathematics departments, as well as a Finance instructor at Villanova University. Dr. Vogel is currently a Managing Member of Alpha Architect, LLC, an SEC-Registered Investment Advisor, where he heads the research department and serves as the Chief Financial Officer. He has a PhD in Finance and a MS in Mathematics from Drexel University, and graduated summa cum laude with a BS in Mathematics and Education from The University of Scranton.
  • justin long

    do you all know if anybody has updated this study with out of sample data for the last 25 years to see if this effect still exists? thanks.

  • Jack Vogel, PhD

    This is not exactly the same measure, but if you look at page 62, you see the significant negative loading on Return(-1,0), which is last month’s return. The time period runs from 1976-2012.


  • justin long

    thanks for the info. please keep up the excellent blogging, i love your site.

  • Jack Vogel, PhD

    happy to help, glad you enjoy the site!

  • Sebastian Jory

    Thank you for this series on Momentum – am I right in saying this was 3 parts – Short, Intermediate and Long? And you document Reversal, Momentum, Reversal respectively?

    Similar to the poster below, is it Alpha Architects view that this ‘term structure’ of momentum exists today? i.e. this is how we should still think about momentum?

    Do you have any other posts coming?

    Thanks so much for your work

  • Jack Vogel, PhD

    More posts on momentum are planned!

    At a high level, momentum results can be summarized as follows:

    Short-term (1-month look-back measurement) shows reversals; Intermediate-term (6 to 12-month look-back measurement) shows continuation; Long-term (36-month look-back measurement) show reversal.

  • Sebastian Jory

    Thanks – this is what I gleaned from the papers that you posted.

    But does current academic research continue to support these conclusions?

  • Jack Vogel, PhD

    Yes it does. However, not explicitly (as those ideas have already been documented in the literature).