Academic journal article Financial Services Review

Can Individual Investors Duplicate Professional Momentum Investing?

Academic journal article Financial Services Review

Can Individual Investors Duplicate Professional Momentum Investing?

Article excerpt


Pettengill, Edwards and Schmitt (2006) compare the selections made by the professionals and the readers in The Wall Street Journal Dartboard Contest. They find that the selections of the professionals are significantly more profitable than the selections of the readers and argue that momentum investing is not a viable choice for individual investors. In this study, we investigate whether individual investors can benefit by mimicking investment choices of professionals as displayed in this contest. In order for individual investors to benefit from this information there must be discernable differences in the selections made by the readers and the pros. We examine a number of characteristics that have been shown to cause return differentials between securities, in general, and in momentum securities, in particular. If the selections of the pros and the readers differ with respect to these characteristics and these differences can explain the observed return differentials in the contest, then individual investors might be able to mimic the momentum investing of the pros. Because we find these characteristics do not explain the return differentials between the pros and the readers, we reject the proposition that individual investors can benefit by mimicking the momentum investing behaviors of the pros.

© 2009 Academy of Financial Services. All rights reserved.

JEL classification: D82; G12; G14

Keywords: Momentum investing; Individual investors

1. Introduction

Since the seminal work of Jegadeesh and Titman (1993), a voluminous literature has demonstrated the existence of positive momentum across a wide variety of equity markets. Recent winners, as measured by returns in an intermediate pre-selection period, remain winners in a post-selection period. Winners repeat! Despite the size of this literature, the cause of momentum in security returns is uncertain;1 however, the prevalence of evidence in favor of the existence of return momentum has led to suggestions that investment strategies could be undertaken to profit from this phenomenon. For instance, Griffin, Ji and Martin (2005) state that implementation of a momentum strategy is worth the serious consideration of portfolio managers. Likewise, Chan, Jegadeesh and Lakonishok (1996) argue that momentum investing constitutes a distinct style of portfolio management.

Based on academic findings, successful momentum investment would seem a fairly easy task even for relatively uninformed individual investors. All an investor would need to do is to amass a fair size portfolio of momentum securities, as identified by recent winners, and sit back and reap the profits as the winners repeat. Realistically, however, the disconnect between historical empirical results and implementation of investment strategies is often large.

In a recent study, Pettengill, Edwards and Schmitt (2006) (hereafter PES) examine the performance of two groups of participants in the dartboard contest conducted by The Wall Street Journal. PES compare the selections of readers (as a proxy for individual investors) and professional analysts (pros) selected by the Journal to participate in the contest. Consistent with the short-term nature of the contest, both the readers and the pros exhibit a strong tendency to select momentum securities (as measured by returns over the previous six-month period). They also find that the momentum choices made by the pros significantly outperform momentum selections made by the readers. PES find no significant difference in the performance of readers and pros when neutral or contrarian securities are selected. The authors do not directly address the cause of the tendency for pros to be better momentum investors than readers. In this paper, we test explanations for the pros' superior performance. If we can identify the characteristics that cause the return difference between the pros and the readers, we may provide individual investors with strategies to mimic and improve profitability from momentum investing. …

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