Why December is the best month of the year for momentum strategies
The holiday season is the perfect time for momentum trades.
Momentum traders should be preparing now to exploit the best month of the year for their stock-picking approach: December.
Momentum strategies, of course, buy the stocks with the best trailing-year returns and/or short the stocks with the worst trailing-year returns. December is far and away the best month for this approach.
There is a big catch to this strong year-end seasonality in favor of momentum approaches, however: Their good fortune in December reverses itself in January, on average. Momentum traders therefore need to be quick on their feet, preparing to liquidate their momentum trades no later than the end of December.
The monthly track records for various momentum strategies are plotted in the above chart. Notice that the average high-momentum stock is an above-average performer in December and a below-average performer in January. Just the reverse is true for the average low-momentum stock. The long/short version of the momentum strategy has an even more pronounced reversal of fortunes between December and January.
(Note carefully that, following the conventional academic definition of momentum, the chart focuses on performance from 12 months ago to one month ago. The reason for this focus is that extreme positive or negative performance over the trailing month often reverses itself in the subsequent one. This short-term reversal effect is the opposite of momentum, needless to say.)
There are several different causes of this year-end momentum seasonality. One is tax-loss selling, in which traders sell their losers near the end of the year to offset some of their capital gains on which they would otherwise have to pay capital gains tax this coming April. The second is end-of-year window dressing, in which institutional money managers sell their losers in December in order to avoid the embarrassment of having to show, in their year-end reports to clients, that they had owned them. With the proceeds, these managers often buy winning stocks in order to create the false impression that they had owned them all along.
Since in both cases December's gain or loss is artificial and has nothing to do with fundamentals, the month's winners often become January's losers - and vice versa.
High- and low-momentum stocks for this coming December
Perhaps the easiest way to bet on the long side of the momentum trade is via an exchange-traded fund. The two such funds with the most assets under management are the Invesco S&P 500 Momentum ETF SPMO, with an expense ratio of 0.13%, and the iShares MSCI USA Momentum Factor ETF MTUM, with an expense ratio of 0.15%.
For those of you who want to bet on momentum with individual stocks, below are two tables. One contains the 10 stocks within the Russell 3000 index with the best trailing performance and which are also recommended for purchase by any of the investment newsletters monitored by my performance auditing firm, while the second contains the 10 stocks with the worst trailing performance that are also recommended by any monitored newsletters.
Momentum traders in December should favor stocks in the first list and avoid (or sell short) stocks in the second list. And in January they should consider doing just the opposite.
High-momentum stocks
Ticker Stock Return from 12 months ago to 1 month ago
LITE
MU
HPE
MEI
Low-momentum stocks
Ticker Stock Return from 12 months ago to 1 month ago
BSX Boston Scientific
CoStar Group
INTU
PNR
CHTR
FLO
LVS
ROL
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com
-Mark Hulbert
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