Systematic Momentum Strategy

MAY 2019

56 Shoreditch High St, London E1 6JJ

Email: aalok.sathe@hindecapital.com

HINDE CAPITAL

Mark Mahaffey Aalok Sathe

CONTRIBUTORS

Co-Founder of HINDE CAPITAL

Fund Manager

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C O N T E N T S

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Introduction & Concept of Study

Equity Momentum Strategy

Results

Controlling Your Downside, Helps Your Upside: Using Market Breadth Filter

How Does The Equity Strategy Perform Versus Other Indices?

Does This Methodology Work on A Multi-asset Spectrum?

Conclusion

Results

Appendix

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Systematic Momentum Strategy

The quantity of motion of a moving body, measured as a product of its mass and velocity. The impetus gained by a moving object. In Newtonian mechanics, linear momentum, translational momentum, or simply momentum is the product of the mass and velocity of an object. It is a vector quantity, possessing a magnitude and a direction in three-dimensional space.

In finance, momentum investing can be a system of buying stocks or other securities that have had high returns over the past three to twelve months and selling those that have had poor returns over the same period. Increased supply of shares in the market drive its price down, causing others to sell.

Momentum investing involves capitalising on the continuation of a trend that is in play by going long stocks, futures or ETFs and shorting assets with downward trending prices. This type of investing holds that trends can persist for some time and its possible to profit from them by going with the trend until the conditions have been broken. For the purposes of this study, we will only be investing on a long only basis and using various filters to assess the market conditions.

The objective of this paper is to test and develop the theory that momentum within the equity market and multi-asset markets develops at least five months prior to the delivery of performance. We will first test this methodology on the UK equity market and then on a broader range of instruments. We want to check;

• The validity of the methodology• Can this methodology be applied to a broader range of markets/

instruments? • Which produces the best return profile? Does diversification help?

What is momentum?

Introduction

Concept of Study

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We believe that momentum within UK equities is driven by:

• Positive price action 6 to 12 months prior to the point of valuation. • Each qualifying candidate must have flat to negative performance one

month prior to the point of valuation.• Only the most liquid stocks are selected; those with a market capitalisation

(>£1bn). • Monthly cost assumption of 20bps.

All stocks are selected on a systematic basis with the strategy being rebalanced at the end of each month. Each month, the portfolio is only allocated if there are at least 8 signals, otherwise the portfolio remains uninvested. We have run this strategy in two formats;

• equal weighted positions. • volatility adjusted positions.

Equity Momentum Strategy

Below demonstrates the performance of the UK equity momentum strategy with the minimum stock filter on an equal weighted and risk adjusted basis. The stock filter ensures that the portfolio is only invested if there are a minimum number of signals at the monthly evaluation point. Of the two risk budgeting approaches, we can see that the equal weighted portfolio produced the best annualised return of 7.2% since August 2005.

Results

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Systematic Momentum Strategy

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The key to any investment strategy is managing your downside and knowing when to be allocated or staying out of the market. Taking this study further, we wanted to add a secondary filter, which is based on market breadth to see if this helps to improve the performance of our momentum strategy.

Further Study

Market breadth is one of the simplest and most effective indicators that gives you significant information about the health of the stock universe. It is computed by deriving the number of positive stocks as a % of the total universe. We believe this is a good indicator as when and if to remain invested within the market. If more than 33.3% of constituents are in positive territory, then we remain invested, else we rotate into an unallocated status.

We can clearly see that by adding the breadth filter, this really improves the annualised return of both strategies as it manages to remain out of the market during very difficult periods (controlling downside risk). This helped to increase the annualised return from 7.2% to 9%, which is significant when it comes to the impact of compounding.

Controlling Your Downside, Helps Your Upside: Using Market Breadth Filter

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Systematic Momentum Strategy

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Systematic Momentum Strategy

It is important to understand how the strategy that we have developed compares against other UK focused indices. We chose to compare against the FTSE100 (total return), Barclays UK Momentum and UK Value Indices. It is evident that the momentum strategy significantly outperformed three indices that we compared it against over the past 14 years.

How does the strategy perform versus other indices?

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Systematic Momentum Strategy

Having applied this methodology to UK equities, we wanted to see if it was transferrable and how it would work on a multi-asset basis. We calculated the same momentum factor for 36 different instruments that covered equities, commodities, currencies and fixed income since 2005. In this experiment we tested for: -

1. Positive price action 6 to 12 months prior to the point of valuation.

2. Each qualifying instrument must have flat to negative performance one month prior to the point of valuation.

3. Most liquid instruments.

4. Monthly cost assumption of 20bps.

All instruments are selected on a systematic basis with the strategy being rebalanced at the end of each month. If there were less than 5 signals, then only 50% of the portfolio would be allocated, otherwise we would assume full allocation. We have run this strategy in two formats;

1. equal weighted positions.

2. volatility adjusted positions.

On the multi-asset front, the best performing strategy was the risk adjusted portfolio with the signal filter. This produced an annualised return over 7% and a Sharpe ratio of 0.75.

Does this methodology work on a multi-asset spectrum?

Results

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For equities, the best portfolio construction came from an equally weighted portfolio.

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Systematic Momentum Strategy

For equities, the best portfolio construction came from an equally weighted portfolio. Performance six to twelve months prior to the point of valuation with a negative skew one month prior to the valuation date helps to drive one-month forward momentum. If you then add a minimum stock and breath filter, this helps to protect the strategies downside risk and improve results vastly. Managing the strategy without a minimum stock filter as you cannot allocate your assets to less than eight signals. This helps to manage your risk by spreading it over several positions. It is also evident that the breadth filter makes a significant difference in terms of managing downside risk as it helps to keep you out of the market during the most tumultuous periods. We can see clearly that the strategy with equally weighted positions and both filters performs the best, generating 9% annualised return since 2005. It is evident that the strategy outperformed the three other benchmark indices that we chose to compare it to on a cumulative and risk adjusted basis.

For multi-asset portfolio, the best portfolio construction came from a risk adjusted portfolio. This strategy produced a smaller cumulative return but with lower volatility giving a better risk adjusted performance. It annualised 7.1% since 2005 with an annualised volatility of 9.5%.

Finally, we produced a combined portfolio that gave a split allocation to the equity and multi-asset strategies. This combined portfolio produced a smoother return profile and demonstrated that diversification helps to deliver a better risk adjusted return. It produced a cumulative return of 198% with the lowest annualised volatility of 9.1%, since 2005.

Conclusion

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Systematic Momentum Strategy

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Correlation Matrix

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Systematic Momentum Strategy

Hinde Capital APPENDIX

FTSE350 Universe – Screened for market capitalisation.

List of Instruments for multi-asset momentum strategy: -

www.hindecapital.com

Important Information

This document is communicated by Hinde Capital Ltd which is authorised and regulated by the UK Financial Conduct Authority. Hinde Capital Ltd is a company registered in England and Wales with company number 06207559. Its registered office at 56 Shoreditch High St, London E1 6JJ. The information herein does not constitute an offer to sell or the solicitation of an offer to buy any securities. The value of an investment can fall as well as rise, and investors may not get back the amount originally invested. Past performance is not indicative of future results. The information in this document is believed to be materially correct but Hinde Capital makes no representation or warranty as to its accuracy or completeness and accepts no liability for any inaccuracy or omission. Information obtained from third parties has not been independently verified by Hinde Capital. This document contains information from various data sources including Bloomberg LLP.