Momentum Investing: Why Winners Keep Winning

#What Is Momentum Investing?

Momentum investing is based on a simple observation: stocks that have performed well recently tend to continue performing well.

This seems to contradict "buy low, sell high." But decades of research confirm that momentum is one of the most robust phenomena in financial markets.

The catch? Momentum works over intermediate horizons—typically 3 to 12 months. Very short-term, price movements are noise. Very long-term, prices revert to fundamentals. But in that middle ground, trends persist.

#The Academic Discovery

Jegadeesh & Titman (1993)

Narasimhan Jegadeesh and Sheridan Titman published "Returns to Buying Winners and Selling Losers" in the Journal of Finance. They found that buying past winners and selling past losers generated significant profits.

Their most successful strategy: Buy stocks with the highest returns over the past 12 months, excluding the most recent month, and hold for 3-6 months.

The "skip month" is crucial. It avoids short-term reversal effects and microstructure noise.

Jegadeesh & Titman (2023): 30-Year Update

Here's what makes momentum remarkable: the original authors revisited their research 30 years later and confirmed it still works.

Despite being widely known, despite trillions in momentum-based strategies, the effect persists. Their 2023 paper shows momentum profits remain economically and statistically significant.

Global Evidence

Momentum isn't just a U.S. phenomenon:

• Rouwenhorst (1998): Documented momentum in 12 European markets
• Asness, Moskowitz & Pedersen (2013): Found momentum in 40+ countries across stocks, bonds, currencies, and commodities
• Gorbenko (2023): Confirmed momentum predicts returns internationally

If something works everywhere for decades, it's probably real.

#Why Does Momentum Work?

Researchers have proposed several explanations:

1. Underreaction to Information

Investors are slow to update beliefs. When a company reports good news, the price rises—but not enough. It takes months for the full information to be reflected in prices.

This is the most widely accepted explanation among academics.

2. Herding Behavior

Investors follow trends. As a stock rises, it attracts attention, media coverage, and more buyers. This creates positive feedback loops that sustain momentum.

3. Disposition Effect

Investors are reluctant to sell winners (they want to "let profits run") and quick to sell losers (to avoid acknowledging mistakes). This creates friction that slows price adjustment.

#How We Measure Momentum

Following Jegadeesh & Titman (1993), we calculate momentum as:

Momentum = 12-month return, excluding most recent month

Why exclude the most recent month?

Short-term returns show reversal, not momentum. Stocks that rose yesterday tend to fall today. By skipping the most recent month, we capture the persistent trend while avoiding this noise.

#Momentum and Value: Better Together

Here's something surprising: momentum and value are negatively correlated.

When value stocks struggle (as in 2015-2020), momentum often thrives. When momentum crashes (as in 2009), value tends to recover.

This means combining momentum and value provides diversification. Our ranking system weights both, allowing them to balance each other.

#Momentum Crashes

Momentum isn't without risk. It can crash spectacularly:

2009: Coming out of the financial crisis, the biggest losers (banks, cyclicals) snapped back violently while momentum stocks lagged.

2020: In March-April, momentum experienced significant drawdowns as COVID crashed and then reversed markets.

These crashes are rare but severe. They typically occur during sharp market reversals—bear market bottoms or crash recoveries.

This is why we don't use momentum alone. Combined with profitability and other factors, the portfolio is more robust.

#The Bottom Line

Momentum works because investors underreact to information and trends persist longer than they "should." It's been validated across decades, countries, and asset classes.

Combined with quality and value—which often move opposite to momentum—it creates a more robust portfolio than any single factor alone.

See top momentum stocks →

#Academic Sources

• Jegadeesh, N., & Titman, S. (1993). "Returns to Buying Winners and Selling Losers: Implications for Stock Market Efficiency." Journal of Finance

• Jegadeesh, N., & Titman, S. (2023). "Momentum: 30 Years Later." Working Paper

• Asness, C. S., Moskowitz, T. J., & Pedersen, L. H. (2013). "Value and Momentum Everywhere." Journal of Finance

• Daniel, K., & Moskowitz, T. J. (2016). "Momentum Crashes." Journal of Financial Economics