Momentum, Reversal, and the Trading Behaviors of Institutions
We identify two types of momenta in stock returns – one due to returns relative to other stocks and one
due to firm-specific abnormal returns, where abnormal is determined by a stock’s idiosyncratic return
variation. Despite similar performances over the first year, these momentum portfolios perform dramatically
differently beyond year one. Relative-return momentum reverses strongly; abnormal-return momentum
continues for years. This complexity in return momentum challenges the current theories of momentum.
We propose that both momenta are consequences of agency issues in the money management industry
and provide empirical support for this economic rationale of momentum in returns. Incentives induce
institutions to chase relative returns and to underreact to firm-specific abnormal returns.
[download pdf]
due to firm-specific abnormal returns, where abnormal is determined by a stock’s idiosyncratic return
variation. Despite similar performances over the first year, these momentum portfolios perform dramatically
differently beyond year one. Relative-return momentum reverses strongly; abnormal-return momentum
continues for years. This complexity in return momentum challenges the current theories of momentum.
We propose that both momenta are consequences of agency issues in the money management industry
and provide empirical support for this economic rationale of momentum in returns. Incentives induce
institutions to chase relative returns and to underreact to firm-specific abnormal returns.
[download pdf]