Understanding Momentum: A Review and Preview of an Alternative Investment Strategy

Abstract

Momentum stands as the pinnacle of simplicity in investment strategy—buying winners and selling losers. With a historical track record spanning over two centuries, this approach has emerged as the ultimate challenge to the Efficient Market Hypothesis (EMH). The persistent behavioral biases inherent in many investors lead them to become momentum traders, while professionals aiming to exploit this strategy encounter constraints within the marketplace. In a world where human beings struggle with behavioral biases, overreaction to negative news, and underreaction to positive news, prices possess the inherent potential to deviate from fundamentals. Throughout history, momentum strategies have consistently delivered substantial profits (Jegadeesh & Titman, 1993), attributed to delayed overreactions that eventually reverse. This research explores the complex dynamics of determining the efficacy of momentum investment strategy in the equities market. By exploring the historical context, behavioral dynamics, and challenges faced by professionals, this study sheds light on the enduring effectiveness of momentum strategies. As the financial market changes, investors who want to manage the market's complexities must first understand the secrets driving momentum. This study not only contributes to the academic discourse but also serves as a practical guide for investors and professionals aiming to capitalize on the transformative potential of momentum in the dynamic world of equity markets.