My colleagues’ new paper Implementing Momentum examines the real world applicability of systematic momentum investing. Momentum is one of the strongest, if not the strongest, of the major market “anomalies” documented in the literature. But most academic studies ignore real world costs and other forms of slippage when examining factors, which is likely a larger issue for momentum due to its higher turnover. The concern is that momentum is so costly to trade that its return premium is diminished in the real world.
Some papers try to address this issue in ways we think are frankly odd. Some of them look at the costs of implementing the exact academic portfolios (in other words, rebalancing often and trading immediately to precisely match the factor specifications) which is not how real-world implementers do it. In the real world, some tracking error to the academic versions1 is generally accepted in an attempt to minimize transactions costs (and often taxes, too). Other papers, that are perhaps even odder, look at traditional active stock picking, attempt to infer their factor exposures, and then lay the known failures of traditional active stock picking at the feet of these factor exposures. These papers then make the leap that these failures show that it’s really hard to implement factor investing. How that analysis relates to the ability to efficiently obtain direct factor exposure I just don’t understand.
In contrast, we take a simple approach that we think is far more relevant than either of the above dead-ends. We do a case study of what we think is a reasonably long period for implementing momentum in the real world — 7 years of live data across large, small, and international markets — and find that costs are much lower than other (we’d argue, flawed) studies have claimed.2
Further, we find that our implementation of momentum retains high fidelity to the basic momentum strategy.3 We don’t address this in the paper, but I would argue that this finding — that momentum is implementable at low cost — holds even more strongly when it’s part of a multi-factor portfolio, where factors that complement momentum, like value, will dampen turnover. All considered, we find that momentum is quite implementable in real life.
 We discuss this in more detail in the paper (I hope everyone reads it!), but when estimating factor premiums, we need much longer histories than seven years to draw meaningful conclusions about expected returns. On the other hand, seven years is a much more reasonable period for addressing the question of whether implementation costs impact the returns from momentum investing, which is what this paper studies.
 That is, actions taken to reduce the costs don’t ruin or even seriously impair the ability to get the desired momentum exposure.
The views and opinions expressed herein are those of the author and do not necessarily reflect the views of AQR Capital Management, LLC, its affiliates or its employees.
This document has been provided to you solely for information purposes and does not constitute an offer or solicitation of an offer or any advice or recommendation to purchase any securities or other financial instruments and may not be construed as such.
The investment strategy and themes discussed herein may be unsuitable for investors depending on their specific investment objectives and financial situation. Diversification does not eliminate the risk of experiencing investment losses.
Please note that changes in the rate of exchange of a currency may affect the value, price or income of an investment adversely.
The factual information set forth herein has been obtained or derived from sources believed by the author and AQR Capital Management, LLC (“AQR”) to be reliable but it is not necessarily all-inclusive and is not guaranteed as to its accuracy and is not to be regarded as a representation or warranty, express or implied, as to the information’s accuracy or completeness, nor should the attached information serve as the basis of any investment decision.
Information contained on third party websites that AQR Capital Management, LLC, (“AQR”) may link to are not reviewed in their entirety for accuracy and AQR assumes no liability for the information contained on these websites.
No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission from AQR.