Momentum is everywhere and it fascinates me! I believe momentum represents so much of what it is to be human. This concept that when things are going well, we often think they will continue to go well. When things are going bad, this feeling that they will continue to go bad. Things in motion, will stay in motion… These momentum examples exist in sports, education, medicine, dieting, fitness and the list goes on. How many times in the past twenty years have I seen the New England Patriots, losing in the fourth quarter, turn one good catch into a first down and ultimately pick up enough momentum to win the game? How many times have I watched a tennis player who is down two sets reverse the tides and end up winning?
Where the idea of momentum becomes especially interesting, is in the world of investing. The idea is simply that a stock that is doing well (its price is in an uptrend) will continue to do well and therefore is worth owning. It seems counterintuitive. I thought you were supposed to buy stocks that were inexpensive like the ones that dropped in price because they are now “on sale?” I thought you weren’t supposed to chase the high performing “winners?” Yet momentum investing would tell us otherwise. One simple momentum strategy might be that each month you look backwards and if over the previous 12 months your stock still has positive performance, you continue to own it. Once it doesn’t, you sell it and replace it with a new one on the rise. Simple to do, but why does it work? The vast majority of investment strategies or “factors” have rigorous research that explain why they work. Momentum stands alone in that even though the research shows that overtime it outperforms the overall market, there is no concrete evidence for WHY it continues to work.
In the end, as with most plans you make, it is so important to believe in what you’re doing and have the mental discipline not to deviate when times get tough. Investing strategies such as momentum may underperform for years before they rise to the top and you earn the added return you were expecting. My advice is to not get on the ride in the first place if you don’t think you can stay on for the whole ride. Another option would be not to ride alone. Sit next to a trusted advisor so you have a partner that will keep you in your seat when you want to jump out.
Happy Friday!
(Disclaimer – All investing involves risk. We are not promoting momentum investing. This post is for education purposes and to get you thinking, not build a portfolio 😊)
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