Momentum Profits, Factor Pricing, and Macroeconomic Risk

Abstract

We study the connection between momentum portfolio returns and shifts in factor loadings on the growth rate of industrial production. Winners have temporarily higher loadings than losers. The loading spread derives mostly from the high, positive loadings of winners. Small stocks have higher loadings than big stocks, and value stocks have higher loadings than growth stocks. Using standard multifactor tests, we present evidence that the growth rate of industrial production is a priced risk factor. In most of our tests, however, the combined effect of factor pricing and risk shifts does not explain a large fraction of momentum returns.

Prior Return Patterns in Sector Returns: Evidence for Emerging Markets

“…The sector growth rates may be able to explain risk; this is motivated by the work of Liu and Zhang (2008). They find that recent winners have temporarily higher loadings for growth rate of industrial production than recent losers, and the combined effect of growth rate of industrial production loadings and risk premiums account for more than half of momentum profits.…”

“…S.Korea, S.Africa and China show weak reversals for long-term portfolio formation windows. The differences in growth rate of sectors of winners and losers may be able to explain risk as documented by Liu and Zhang (2008). It is expected that the sector factor, which mimics the growth risk differences between corner portfolios, should be able to provide a better explanation based on short-term prior return formation.…”

“…India and Russia momentum patterns continue even for long-term portfolio formation windows South Korea, South Africa and China show weak reversals for long-term portfolio formation windows. We construct a sector factor based on Liu and Zhang (2008) argument that winner sector exhibit higher risk owing to stronger growth potential. We observe that a large part of prior return patterns in stock returns are absorbed by similar patterns in sector returns.…”

“…Saffieddine and Sonti (2007) report firms with highest industry growth quintile have significantly higher momentum compared to industries in lowest growth quintile. Liu and Zhang (2008) document that growth rate of industrial production is a risk factor in asset pricing tests and can explain more than half of stock momentum profits. Fraulo and Nguyen (2009) replicate Moskowitz and Grinblatt's work and find that industry momentum strategies do provide greater returns than individual stock momentum strategies and also the optimal time horizon of industry momentum strategy has no correlation with the size of the industries.…”

“…In case of long-term portfolio formation, the sector factor is likely to absorb cross-section of average returns in case of Brazil, Russia and India'. We construct a sector factor based on Liu and Zhang (2008) argument that winner sector exhibit higher risk owing to stronger growth potential. Our results are stronger for short-term portfolio formation windows for all the sample countries and for long-term portfolio formation windows in case of Brazil, Russia and India.…”