The market is focused (and rightfully so) on global trade developments amid the continuing tariff war between the world’s two largest economies. Last Friday, President Trump announced that the first phase of a deal with China had been agreed upon. The partial settlement, which includes agriculture, currency and some aspects of intellectual property protections, is considered to be the first step to end the 15-month old tussle.
The United States will delay its planned tariff hike on $250 billion of Chinese imports, supposed to take effect on Oct 15. Meanwhile, additional 15% of tariffs on all Chinese goods could still start on Dec 15 unless the second phase is settled upon. Undoubtedly, the development is a positive sign to the markets, in the sense that escalation is temporarily halted.
For long-term investors, reacting emotionally to volatile trends can be more damaging to a portfolio’s performance than the downturn itself, given the prevailing circumstances. By adhering to a well-thought-out investment plan, investors may be better off during periods of short-term uncertainty. When value or growth investing fails to fetch sustained profits, one should explore another time-tested winning strategy that simply bets on the frontrunner stocks. This is known as momentum investing.
At the core, momentum investing is buying high, selling higher. It is based on the idea that once a stock establishes a trend, it is more likely to continue in that direction. There’s a whole list of behavioral biases that most investors exhibit. For instance, there are investors who are anxious about booking losses and hence, hold on to losing stocks for too long, hopeful of a rebound in prices. On the other hand, a few investors sell their winners way too early. Momentum investing is one of the best strategies to avoid making such mistakes.
Momentum strategy works because investors initially tend to underreact to news, events or data releases. However, once things become clear, they tend to go with the flow and overreact, causing dramatic price reactions.
So, basically, it’s a way to profit from the general human tendency to extrapolate current trends into the future. Momentum investing is, thus, based on that gap in time which exists before the mean reversion occurs i.e. before prices become rational again.
Momentum strategies have been known to be alpha-generative over a long period of time and across market stages. So obviously, this strategy is quite tricky to be implemented as detecting these trends well ahead of time is no child’s play.
Here, we have created a strategy that will help investors get in on these fast movers when there is a short-term pullback in price, and rake in handsome gains.
Percentage Change in Price (52 Weeks) = Top #50: This item selects the top 50 stocks with the best percentage price change over the last 52 weeks. This parameter ensures we get the best stocks that have appreciated steadily over the past year.
Percentage Change in Price (1 Week) = Bottom #10: From the above 50 stocks, we then choose those that are also among the 10 worst performers over a short one-week period. This parameter picks the ones that have witnessed a short-term pullback in price.
Zacks Rank #1: No matter whether it is a good market or bad, stocks sporting a Zacks Rank #1 (Strong Buy) have a proven history of outperformance.
Momentum Style Score of B or better: While ensuring solid momentum features, a momentum score of A or B knocks out a lot of the screening process, as it takes into account several factors including volume change and relative performance. Stocks with a Momentum Score of A or B, when combined with a Zacks Rank #1 or 2 (Buy), handily outperform other stocks.
Current Price greater than $5: The prices of the stocks should not be too low.
Market Capitalization = Top #3000: We have chosen stocks that are among the top 3000 in terms of market value to ensure stability of price.
Average 20-Day Volume greater than 100,000: A substantial trading volume ensures that these stocks are easily tradable.
Here are three of the six stocks that made it through this screen:
Royal Gold, Inc. RGLD, which acquires and manages precious metal streams, royalties and related interests, has gained more than 57% in the past year but declined 3.9% over the past week. It has a Momentum Score of A.
Shake Shack Inc. SHAK operates and licenses Shake Shack restaurants (Shacks) in the United States and internationally. The stock has surged almost 58% in the past year and has a Momentum Score of A. Shares of the company have depreciated 3.2% over the past week.
Taylor Morrison Home Corporation TMHC, which operates as a public homebuilder in the United States, has gained more than 61% in the past year but declined 2.4% over the past week. It has a Momentum Score of A.