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I’m afraid I’m becoming a momentum stock bore on this site, but it’s a subject that continually amazes me. The London Business School has done some more research:

"Momentum, or the tendency for stock returns to trend in the same direction, is a major puzzle," the LBS three comment.

"In well-functioning markets, it should not be possible to make money from the naïve strategy of simply buying winners and selling losers. Yet there is extensive evidence that momentum profits have been large and pervasive".

The numbers certainly back up the claim. In one of LBS's studies, which analysed all fully-listed stocks between 1955 and 2007, the shares which had outperformed the market most in the previous 12 months went on to generate an annualised return of 18.3pc while the market's worst laggards rose by 6.8pc on average.

Over that period the market as a whole rose by 13.5pc a year.

Arguably, those figures, impressive as they are, are conservative. That's because the portfolios created were weighted by company size (like FTSE's indices). Using an equally weighted portfolio in which smaller companies have the same impact as bigger ones resulted in a 25.6pc rise for last year's winners and a 12.2pc rise for the losers.

To make sure that the results were not just a by-product of this smaller company effect, Dimson et al re-ran the study using only the 100 biggest companies.

Even restricting the universe to the blue-chips, the method worked well.
The previous year's out-performers went on to give a 16.5pc return while the losers rose by 8.9pc.

Posted by edelfenbein at February 25, 2008 11:56 AM