RE: The Power of Momentum
This is a follow up to (what appears on the surface to be) a simple, effective strategy for trading the U.S. stock market from the Bank of England’s Andrew Haldane, later covered by super-bloggers Felix Salmon and EconomPic.
The graph above is taken directly from Haldane’s paper and shows the result (in red) of going long the S&P 500 when the previous month closed up, and short when it closed down, from 1880 (you can ignore the blue line).
The graph appears to show strong month-to-month momentum in the U.S. market with positive months portending positive months (and vice-versa).
This is the kind of graph that on first blush makes us wonder why we spent all this time developing smart trading strategies when the Holy Grail has been waiting right before our eyes this whole time.
Just one not-so-small problem with the analysis…
Haldane used Robert Shiller’s “Irrational Exuberance” data set for his historical S&P 500 prices.
That’s a problem because when Shiller shows a monthly price for the S&P 500, that price is the average for the month and NOT the month-end (or month-beginning or anything else). In other words, that price isn’t actually knowable until the end of the month (and by then, it’s no longer obtainable).
What if we traded Haldane’s strategy using an actual obtainable price?
Below is the same strategy using the original Shiller data (red) versus the actual month-end close (grey) on the S&P 500 from 1930.
A mighty big difference.
The strategy is a dud, and because I know someone will ask, it’s a dud regardless of whether we trade the last day of the month, the first, or any other.
Know your data.
Just trying to be a little more vertical and keeping the good ideas floating to the top and driving the bad ones to the bottom.
. . . . .
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