SMSFundamentals: Dual Momentum Investing

SMSFundamentals | Jul 11 2023

SMSFundamentals is an ongoing feature series dedicated to providing SMSF trustees with valuable news, investment ideas and services, in line with SMSF requirements and obligations.

For an introduction and story archive please visit FNArena's SMSFundamentals section on the website.

Dual Momentum Investing: A Potent Tool For Savvy Investors

In the investing landscape, seeking out strategies that can provide an edge is essential for savvy investors. Dual momentum investing is a potent tool that combines historical performance analysis and benchmark comparisons to identify investments with strong potential.

By harnessing the forces of absolute and relative momentum, this strategy focuses on capturing outperforming assets while steering clear of underperforming ones. The article delves into the intricacies of dual momentum investing, discusses its implementation process, explores its potential, and highlights the risks.

-Dual momentum investing applies absolute momentum (compared to historical performance) and relative momentum (compared to a benchmark) to identify investments with strong performance potential
-The approach involves selecting asset classes, computing absolute and relative momentum, ranking assets based on momentum scores, allocating capital accordingly, and periodic rebalancing
-Risks of dual momentum investing include performance reversals, limited diversification, reliance on short-term anomalies, and the potential for overfitting and data mining bias

By Anuj Sharma

Dual Momentum Investing

Dual momentum investing (introduced by Gary Antonacci) unites two types of momentum for the identification and selection of investments. It systematically captures strong-performing assets while avoiding weak-performing ones. The strategy has the potential to generate returns beyond the benchmark.

The first type of momentum used in dual momentum investing is absolute momentum. It quantifies the relative strength of an investment or asset against its own historical performance. If an asset demonstrates positive absolute momentum, it signifies that the asset has outperformed its historical average, and consequently, it can be considered a favourable investment. Conversely, if an asset’s performance signifies negative absolute momentum, it reflects that the asset has underperformed its historical average and should be avoided.

The second type of momentum used in the strategy is relative momentum. It assesses the relative strength of different assets by comparing their performance against a benchmark. Investments with strong relative momentum, signifying that they have outperformed the benchmark, are preferable, while investments with weak relative momentum should not be selected.

By combining absolute and relative momentum, dual momentum investing identifies investments that have both strong absolute and relative performance. The logic behind the strategy is that assets with positive absolute momentum are more likely to continue their upward trend, while assets with strong relative momentum are likely to outperform their peers and the market.