Another look at value and momentum: volatility spillovers
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Another look at value and momentum: volatility spillovers Klaus Grobys1 · Sami Vähämaa1
© The Author(s) 2020
Abstract This paper examines volatility interdependencies between value and momentum returns. Using U.S. data over the period 1926–2015, we document persistent periods of low and high volatility spillovers between value and momentum strategies. Moreover, we find that the intensity of the volatility spillovers may change substantially in very short periods of time and that these shifts in spillover intensity can be linked to prominent economic events and financial market turmoil. Our results further demonstrate that value returns increase and momentum returns decrease monotonically with increasing volatility spillovers between the two strategies. Given this linkage between spillover intensity and returns, we propose a simple trading strategy which utilizes a volatility spillover index for allocating funds between value and momentum portfolios. The proposed trading strategy outperforms value and momentum strategies and generates payoffs that are not subject to option-like behavior. Keywords Asset pricing · Value effect · Momentum effect · Volatility spillovers · Volatility spillover index JEL Classification G11 · G12 · G14
1 Introduction Over the last 2 decades, considerable attention in asset pricing studies has been devoted to the performance and risk characteristics of value and momentum strategies. As noted by Asness et al. (2013), value and momentum effects in stock returns are two of the most examined financial market anomalies which have now become focal points of the asset pricing literature. These two strategies are also widely used by practitioners. In this paper, we aim to contribute to the literature by empirically examining volatility interdependencies between value and momentum returns.
* Klaus Grobys [email protected] Sami Vähämaa [email protected] 1
School of Accounting and Finance, University of Vaasa, P.O. Box 700, 65101 Vaasa, Finland
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The value effect, that is the outperformance of stocks with high book-to-market equity ratios (“value stocks”) relative to stocks with low book-to-market equity ratios (“growth stocks”), is one of the oldest investment paradigms which can be traced back to the classic book by Graham and Dodd (1934). The existence of the value premium has been widely documented in stock markets around the world (e.g., Capaul et al. 1993; Fama and French 1998, 2012; Bauman et al. 2001; Griffin 2002; Bartov and Kim 2004; Asness et al. 2013; Cakici et al. 2016; Pätäri et al. 2018), and the standard empirical asset pricing models of Fama and French (1993, 2015) have been designed to capture the value pattern in stock returns.1 The momentum effect, in turn, refers to the tendency of stocks with high short-term past returns (“winners”) to outperform stocks with low past returns (“losers”). This anomalous continuation of short-term returns was first documented by Jegadeesh and Titman (1993), and has since been extensively explored
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