Dual momentum, popularized by Gary Antonacci, uses 12 month returns to:
- rank and select the top asset (RELATIVE)
- shelter in a safer asset if the absolute value falls below a threshold (ABSOLUTE)
Many tactical strategies use bonds as the safer asset which enhances returns in two ways. Firstly, returns tend to be uncorrelated with stocks and secondly, bonds have risen continuously over the past 3 decades.
Here is the result using a single risky asset (S&P 500) and Long Term Treasury Bonds (data from yahoo). Clearly, relative momentum is not used in this case. The lower return threshold triggering a switch into bonds is the 12 month bond return.
Equity curve is in blue and 12 month rolling return in green. Average compound return is 9.7% since 1987 using the full dataset.
Notice the flat to negative return from 2009 through 2011.
Now, remove the underlying bond trend by subtracting the average return (0.71%) from each monthly data point and recalculate:
Compound return falls to 8.3% but the majority occurs pre-2000.
This test could be performed various ways but the result above is a possibility for this type of strategy when interest rates start to rise.
NEXT WEEK: a solution.