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Do Momentum and Reversal Strategies Work in Commodity Futures? A Comprehensive Study

Last Updated on 10 February, 2024 by Rejaul Karim

In their exhaustive study “Do Momentum and Reversal Strategies Work in Commodity Futures? A Comprehensive Study,” Andrew Urquhart of ICMA Centre, Henley Business School and the University of Reading, and Hanxiong Zhang of the University of Surrey probe the effectiveness of various trading strategies in the realm of commodity futures. Over the period from January 1979 to October 2017, the paper meticulously scrutinizes the performance of three distinct trading strategies – those proposed by Jegadeesh and Titman (1993), George and Hwang (2004), and Gatev, Goetzmann, and Rouwenhorst (2006) – across 29 commodity futures.

The investigation yields notable findings, indicating the absence of significant reversal profit across numerous formation-holding windows for all three strategies. However, it sheds light on the presence of statistically and economically significant momentum profits, with the profitability escalating as formation-holding periods increase.

Additionally, the study unveils that inverting the conventional Gatev, Goetzmann, and Rouwenhorst (2006) strategy is more profitable on a risk-adjusted basis, albeit exhibiting a decline in superiority since 1998.

This intricate analysis underscores the sensitivity of momentum returns to market conditions and hints at the predictability of momentum return crashes, with various factors partially elucidating the momentum profits.

Abstract Of Paper

This paper investigates the performance of three different trading strategies – Jegadeesh and Titman (1993), George and Hwang (2004) and Gatev, Goetzmann and Rouwenhorst (2006) – in 29 commodity futures from January 1979 to October 2017. We find there is no significant reversal profit across 189 formation-holding windows for all the three strategies. However, there are statistical and economically significant momentum profits, and the profitability increases with the rising of formation-holding periods. The strategy of inversing the conventional Gatev, Goetzmann and Rouwenhorst (2006) is more profitable than the other two momentum strategies on a risk-adjusted basis; but the superiority declines sharply since 1998. Momentum returns are quite sensitive to market conditions but the crash of momentum returns are partly predictable. Return seasonality, risk and herding also provide partial explanation of the momentum profits.

Original paper – Download PDF

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Author

Andrew Urquhart
ICMA Centre, Henley Business School; University of Reading – ICMA Centre

Hanxiong Zhang
University Of Surrey

Conclusion

In conclusion, Andrew Urquhart and Hanxiong Zhang’s comprehensive study on “Do Momentum and Reversal Strategies Work in Commodity Futures?” provides crucial insights into the performance of various trading strategies across 29 commodity futures from January 1979 to October 2017.

The investigation reveals the absence of significant reversal profit for the considered strategies, while showcasing statistically and economically significant momentum profits that amplify with extended formation-holding periods.

The reversal strategy of inversing the conventional Gatev, Goetzmann, and Rouwenhorst (2006) demonstrates superior profitability on a risk-adjusted basis, albeit experiencing a noticeable decline in superiority post-1998. The findings also highlight the sensitivity of momentum returns to market conditions, as well as the partial predictability of momentum return crashes.

Moreover, return seasonality, risk, and herding contribute partially to explaining the observed momentum profits. This in-depth exploration thus offers invaluable insights into the nuanced dynamics of trading strategies in the domain of commodity futures, serving as a foundational resource for further research and practical application in financial markets.

Related Reading:

Is the Supply Curve for Commodity Futures Contracts Upward Sloping?

Alternative Beta Strategies in Commodities

FAQ

Q1: What are the key findings regarding the performance of momentum and reversal trading strategies in commodity futures according to the study?

A1: The study indicates the absence of significant reversal profit across various formation-holding windows for three different trading strategies (Jegadeesh and Titman, George and Hwang, Gatev, Goetzmann, and Rouwenhorst). However, it highlights statistically and economically significant momentum profits, with the profitability increasing as formation-holding periods extend.

Q2: How does the study assess the profitability of the reversal strategy based on the Gatev, Goetzmann, and Rouwenhorst (2006) approach?

A2: The study suggests that inverting the conventional Gatev, Goetzmann, and Rouwenhorst (2006) strategy is more profitable than the other two momentum strategies on a risk-adjusted basis. However, it notes a sharp decline in the superiority of this strategy since 1998.

Q3: What factors contribute to explaining the observed momentum profits in commodity futures trading, according to the study?

A3: The study identifies return seasonality, risk, and herding as factors that partially explain the observed momentum profits in commodity futures trading. It also highlights the sensitivity of momentum returns to market conditions and indicates partial predictability of momentum return crashes.

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