Taming Momentum Crashes

This looks interesting. Some academics applied 10% stops to a momentum-based strategy and found that it boosted overall performance. This makes sense since it harnesses the natural trend effects of financial markets.

Taming Momentum Crashes: A Simple Stop-Loss Strategy

Yufeng Han
University of Colorado at Denver – Business School

Guofu Zhou
Washington University in St. Louis – Olin School of Business

March 10, 2014

Abstract:
In this paper, we propose a simple stop-loss strategy to limit the downside risk of the well-known momentum strategy. At a stop-level of 10%, we find empirically with data from January 1926 to December 2011 that the monthly losses of the equal-weighted momentum strategy can go down substantially from -49.79% to within -11.34%. For the value-weighted momentum strategy, the losses reduce from -65.34% to within -23.69% (to within -14.85% if year 1932 is excluded). At the same time, the average returns and the Sharpe ratios with use of the stops are more than doubled. Our results indicate that the abnormal profitability of the momentum strategy is unlikely explained by crash risk.

Posted by on April 2nd, 2014 at 12:40 pm


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