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A Trend Factor: Any Economic Gains from Using Information over Investment Horizons?

Last Updated on 10 February, 2024 by Rejaul Karim

Embark on a journey into the intricate tapestry of stock price dynamics with Yufeng Han, Guofu Zhou, and Yingzi Zhu’s exploration of the “Trend Factor.” Spanning 63 pages of financial insight, this paper introduces a novel concept that unravels the short-, intermediate-, and long-term trends in stock prices.

In a dance of moving average prices validated by a comprehensive general equilibrium model, this trend factor emerges as a beacon of predictive power. Surpassing the prowess of short-term reversal, momentum, and long-term reversal factors, it boasts a Sharpe ratio that more than doubles their collective might.

Amidst the tumultuous waves of the financial crisis, the trend factor stands resilient, earning accolades with a monthly gain while its counterparts falter. Its robust performance, echoed across alternative formations and control variables, positions the trend factor as a compelling storyteller in deciphering cross-sectional stock returns.

Abstract Of Paper

 

In this paper, we provide a trend factor that captures simultaneously all three stock price trends: the short-, intermediate-, and long-term, by exploiting information in moving average prices of various time lengths whose predictive power is justified by a proposed general equilibrium model. It outperforms substantially the well-known short-term reversal, momentum, and long-term reversal factors, which are based on the three price trends separately, by more than doubling their Sharpe ratios. During the recent financial crisis, the trend factor earns 0.75% per month, while the market loses −2.03% per month, the short-term reversal factor loses −0.82%, the momentum factor loses −3.88%, and the long-term reversal factor barely gains 0.03%. The performance of the trend factor is robust to alternative formations and to a variety of control variables. From an asset pricing perspective, it also performs well in explaining cross-section stock returns.

Original paper – Download PDF

Here you can download the PDF and original paper of SupercointegraA Trend Factor: Any Economic Gains from Using Information over Investment Horizons?ted.

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Author

Yufeng Han
University of North Carolina (UNC) at Charlotte – Finance

Guofu Zhou
Washington University in St. Louis – John M. Olin Business School

Yingzi Zhu
Tsinghua University – School of Economics & Management

Conclusion

Han, Zhou, and Zhu introduce a revolutionary Trend Factor that transcends conventional stock price trends, encompassing short-, intermediate-, and long-term horizons. Backed by a robust general equilibrium model, this factor leverages moving average prices, outshining established factors like short-term reversal, momentum, and long-term reversal in terms of Sharpe ratios.

During the financial crisis, the Trend Factor demonstrated resilience, earning 0.75% monthly while the market faced losses. The factor’s performance remains steadfast across alternative formations and control variables, presenting a compelling case for its efficacy in explaining cross-sectional stock returns.

This research not only advances predictive models but also challenges existing notions about trend analysis in asset pricing.

Related Reading:

The 52-Week High Momentum Strategy in International Stock Markets

Industry Information and the 52-Week High Effect

FAQ

Q1: What is the main contribution of Yufeng Han, Guofu Zhou, and Yingzi Zhu’s research on the “Trend Factor”?

A1: The research introduces a novel “Trend Factor” that captures short-, intermediate-, and long-term stock price trends simultaneously. It leverages moving average prices and is justified by a proposed general equilibrium model. The main contribution is the outperformance of this Trend Factor compared to well-known factors like short-term reversal, momentum, and long-term reversal, with its Sharpe ratio more than doubling their collective strength.

Q2: How does the Trend Factor perform during the financial crisis compared to other established factors and the market?

A2: During the financial crisis, the Trend Factor demonstrates resilience, earning a monthly gain of 0.75%, while the market faces losses of -2.03%. In contrast, the short-term reversal factor loses -0.82%, the momentum factor loses -3.88%, and the long-term reversal factor barely gains 0.03%. This robust performance during a challenging period highlights the strength of the Trend Factor.

Q3: What makes the Trend Factor unique, and how does it contribute to explaining cross-sectional stock returns?

A3: The Trend Factor’s uniqueness lies in its ability to capture trends across different investment horizons simultaneously. It outshines other factors in terms of Sharpe ratios and remains robust across alternative formations and control variables. From an asset pricing perspective, the Trend Factor performs well in explaining cross-sectional stock returns, challenging existing notions about trend analysis and providing valuable insights for predictive models in asset pricing.

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