Momentum investing: What is it and is this strategy better than value investing? (2024)

FAQs

Momentum investing: What is it and is this strategy better than value investing? ›

The philosophy of momentum investing encourages investors to invest more when prices are rising and sell them when they have peaked. The investing principle was made popular by Richard Driehaus, who is also known as the father of momentum investing.

Value investing is an evergreen strategy that requires patience in the long term. However, momentum investing can give you handsome returns in the short to medium time horizon following price action moves along an improving financial performance of the company.

Their strategy involves purchasing assets on the rise and divesting those on a downward trajectory, to capitalise on and profit from these trends. Momentum strategies leverage investor psychology, specifically the effects of herd mentality and the fear of missing out (FOMO).

Momentum investing can work, but it may not be practical for all investors. As an individual investor, practicing momentum investing will most likely lead to overall portfolio losses.

Benefits of Momentum Investing

This is primarily because when chosen correctly, momentum stocks give higher future returns even though the investment is made at a high level already. So, the returns can be significantly high if the market is timed right.

The momentum strategy buys assets with the strongest past return (12-month or 1-month) and expects them to outperform assets with the lowest past return. Value strategy buys assets that are fundamentally cheap and intends to gain on the assets' reversion to their long-term means.

And while value stocks have tended to outperform more-expensive, faster-growing growth stocks, they often lag for years at a time. Still, even if you aren't interested in picking stocks yourself, there are plenty of mutual funds and ETFs that can help follow the strategy for you.

Momentum trading attempts to capitalize on market volatility. If buys and sells are not timed correctly, they may result in significant losses. Most momentum traders use stop loss or some other risk management technique to minimize losses in a losing trade.

Momentum is the rate of acceleration of a security's price—that is, the speed at which the price is changing. Momentum trading is a strategy that seeks to capitalize on momentum to enter a trend as it is picking up steam.

For example, suppose you are bullish on the Indian stock market and would like to go long on stocks with solid momentum. You would first look at a chart of the Nifty index to identify the prevailing trend (upward) and then identify stocks with solid upward momentum within this broader bullish trend.

What is the problem with momentum investing? ›

One of the biggest issues with momentum investing is that it requires a high amount of turnover as the best-performing assets tend to change rapidly over any of the standard lookback periods. It's also true that for any investment strategy to ``work'' (3) it must go through extended periods of time when it doesn't.

Reversal risk: Momentum funds are highly volatile compared to other mutual funds, as they invest in stocks that have shown rapid price appreciation. However, there is a high risk of a trend reversal. Markets are inherently unpredictable and asset prices that have exhibited strong recent momentum may suddenly plummet.

Value investors “buy low, sell high” while momentum investors “buy high, sell higher.” And, while value investors will take a large position in a stock only if they understand the underlying company, momentum investors care little about the underlying company – they only want to see the shares rising faster than the ...

With multiple investment options, investors may face a dilemma but experts recommend momentum-based funds as they tend to perform better in the long run. Momentum investment is a combination of funds that have done well in the last 6-12 months. These funds are changed every six to 12 months and can balance each other.

Rather than holding long-term positions, momentum strategies focus on short-term trades, riding successful assets to a peak and then selling when a downtrend begins. Momentum investing offers an alternative to classic strategies like buy-and-hold or day trading.

Momentum funds seek to potentially capitalise on the continuation of recent price trends, while value funds invest in undervalued stocks that have the potential to perform well in the future. Both entail risks, but momentum stocks may be more volatile in the short term.

The primary benefit of momentum trading is that you can potentially make a large amount of money over a short period of time. If you buy and hold a stock, for example, even a long-term winner may have months or even years in which it doesn't move hardly at all or even trades at a loss.

Some studies show that value investing has outperformed growth over extended periods of time on a value-adjusted basis. Value investors argue that a short-term focus can often push stock prices to low levels, which creates great buying opportunities for value investors.

Is value investing still relevant? Yes—and here are some tips on how to do it successfully: Value stocks are generally good bargains, but not all bargain stocks offer good value. The search for value stocks that will rise, and hold their value over time, begins with sound fundamental investing.