Questions for at the AQRs Momentum Funds (The Momentum Effect) - Case Study Example

College: The Momentum Effect The use of an investment strategy to gain profits is incredibly important since both risk and return are connected to the choice of strategy. It is, however, possible to optimize a blend of strategies to balance reward and risk in addition to purposes of diversification. This paper looks into momentum as an investment strategy which aims to capitalize on the continuance of existing market trends (Jegadeesh & Titman, 2). Momentum of stocks is a phenomenon where stocks which have performed well in the past relative to other stocks continued the same way in the future, and the stocks that have performed relatively poorly continue to perform poorly. The existence and ability to implement the strategy despite up or down markets is implied due to the aspect of relative performance as a component of momentum.
Authors such as Jegadeesh and Titman in their publication, present models of behavior with a basis on the idea that momentum profits result due to inherent biases in the way an investor interpret given information (7). Others however argue that momentum investors realized massive returns as mere compensation for risk.
Generation of momentum returns can be as a result of rational and irrational reasons. Some of these reasons include momentum being a consequence of overreaction and under reaction to news pertaining to the market and failing to incorporate them in their transaction prices. This argument can be explained by examples such as positive announcements from companies resulting in price increases thus more buying of stocks (Jegadeesh & Titman, 10).
With respect to the time series of returns, we can conclude that each stock’s past return is a future predictor meaning that stocks with high expected rates of return in adjacent time periods are expected to have high realized rates of returns in both periods. In the case of return reversals, such appear mostly in later years following the formation date where it is most likely that an investor will lose money.
Work cited
Jegadeesh, Narasimhan and Titman, Sheridan. Returns to buying winners and selling losers:
Implications for stock market efficiency. Journal of Finance: 48. (1993).65-9 1 Read More