Value & Momentum Drawdowns: Historical Factor Reversion

Introduction: The vicissitudes and vagaries of value and momentum strategies; evaluating when strategies underperform
Drawdowns: Value drawdowns are slow with violent snap-backs; momentum declines are rapid with slow recoveries
Characteristics of Recoveries: Drawdowns in value tend to be precursors to countercyclical movements compared with the market; momentum drawdowns tend to recover in a highly pro-cyclical manner
Frequency & Reliability: Drawdowns in value tend to be infrequent and have always recovered; drawdowns in momentum are more frequent and have not always resolved themselves
Conclusions: The tortoise and the hare; value and momentum strategies leave you frustrated in their own ways
Where We Are Today: Active drawdowns and their constituents

Introduction: The vicissitudes and vagaries of value and momentum strategies

Clients have lamented—in recent quarters—the lack of market direction since the S&P first touched 2,000 in July 2014. This concern gets expressed in a number of ways via questions about sector performance, energy or declining economic growth that often ending with the more basic query, “what exactly is working anyway?” Using the Kailash data set, we tested value and momentum strategies in an attempt to understand periods of underperformance and implications for today’s market environment.

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Over that time frame since 2014 we have noticed the Kailash Large and Small & Mid Cap portfolios have an increasingly value-oriented tilt. Stocks with traditional value characteristics have moved up in the rankings. However, in the Large Cap stock space, the market appears to be schizophrenic; high momentum “story” stocks either stand still or rise while firms deemed “cyclical” continue to price in a stock apocalypse, trading lower despite rising profits. This value/momentum/Kailash ranking divergence has been a primary contributor to the Kailash Large Cap portfolio’s 1.6% underperformance YTD. The opposite phenomenon is occurring in the Small & Mid Cap portfolio where we have noticed that cracks emerged in the high momentum space. High fliers have suffered severe headwinds. The tribulations of these high momentum story stocks—and our value pivot—have been meaningful contributors to the Baird’s SMID portfolio’s 1.9% outperformance YTD.

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As a reminder for our Financial Advisors: our models are available on a continuous basis, and most have been in production for over a decade. If you are looking for simple, concentrated, low turnover, and tax efficient model portfolios we would like to talk with you. KCR also offers a wide range of easy-to-use but sophisticated tools. Our toolkits can help identify mispriced stocks with the best and worst risk/reward characteristics, estimate a stock’s duration and warn you when a company is engaging in low-quality accounting. Over the last 12 years, KCR has built and offers time-tested and class-leading products built by experienced and proven money managers for fixed to low prices.
Kailash Capital Research, LLC ’s sister company, L2 Asset Management, runs market neutral, long/short, large-cap, and mid-cap long-only portfolios with a value and quality bias. L2 employs a highly disciplined investment process characterized by moderate concentration, low turnover, high tax efficiency, and low fees. While nobody can predict the future, we believe the recent resurgence in risk-adjusted returns seen across all products is the beginning of what may be a long period where speculation is punished, and prudence and patience rewarded.

Disclaimer

The information, data, analyses, and opinions presented herein (a) do not constitute investment advice, (b) are provided solely for informational purposes and therefore are not, individually or collectively, an offer to buy or sell a security, (c) are not warranted to be correct, complete or accurate, and (d) are subject to change without notice. Kailash Capital Research, LLC and its affiliates (collectively, “Kailash Capital Research, LLC ”) shall not be responsible for any trading decisions, damages or other losses resulting from, or related to, the information, data, analyses or opinions or their use. The information herein may not be reproduced or retransmitted in any manner without the prior written consent of Kailash Capital Research, LLC . In preparing the information, data, analyses, and opinions presented herein, Kailash Capital Research, LLC has obtained data, statistics, and information from sources it believes to be reliable. Kailash Capital Research, LLC , however, does not perform an audit or seeks independent verification of any of the data, statistics, and information it receives. Kailash Capital Research, LLC and its affiliates do not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for tax, legal, or accounting advice. You should consult your tax, legal, and accounting advisors before engaging in any transaction. © 2021 Kailash Capital Research, LLC – All rights reserved.

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