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Avoiding momentum crashes: Dynamic momentum and contrarian trading

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  • Dobrynskaya, Victoria

Abstract

High momentum returns cannot be explained by risk factors, but they are negatively skewed and subject to occasional severe crashes. I explore the timing of momentum crashes and show that momentum strategies tend to crash in 1–3 months after the local stock market plunge. Next, I propose a simple dynamic trading strategy which coincides with the standard momentum strategy in calm times, but switches to the opposite contrarian strategy after a market crash and keeps the contrarian position for three months, after which it reverts back to the momentum position. The dynamic momentum strategy turns all major momentum crashes into gains and yields an average return, which is about 1.5 times as high as the standard momentum return. The dynamic momentum returns are positively skewed and not exposed to risk factors, have high Sharpe ratio and alpha, persist in different time periods and geographical markets around the globe.

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  • Dobrynskaya, Victoria, 2019. "Avoiding momentum crashes: Dynamic momentum and contrarian trading," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 63(C).
    • Handle: RePEc:eee:intfin:v:63:y:2019:i:c:s1042443118303093
    DOI: 10.1016/j.intfin.2019.101141
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    Cited by:

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    4. repec:eme:jefasp:jefas-08-2021-0159 is not listed on IDEAS

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    More about this item

    Keywords

    Momentum; Contrarian; Downside risk; Crash risk; Trading strategy;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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