Dual momentum: lookback parameter

A great advantage of dual momentum is the low number of parameters (typically only a lookback length of 12 months is used).  This reduces the likelihood that results are curve-fitted or uncovered by data-mining and subsequently useless in real-time trading.

The plot below compares a 12 month lookback against 1 month and a 50:50 combination of both lookbacks:

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Annual returns and sharpe ratios are listed in the chart legend and are very similar.

Of major interest though, the correlation between ’12’ and ‘1’ monthly returns is only 0.62.  Finding consistently uncorrelated strategies is difficult but rewarding.  When the two strategies are combined, standard deviation is reduced and sharpe ratio is increased to 1.3.

A zoomed plot from 2000 to present is shown below:

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The larger drawdowns experienced by the individual strategies (2002, 2009 and 2011) have been reduced by combining the two relatively uncorrelated curves, without sacrificing returns.

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Dual momentum: real portfolios and current status

Dual momentum with Value and Momentum factor portfolios was tested back to 1950 with 16% annual returns:

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What is the tracking error of real ETFs to those portfolios?

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Vanguard Small-Value (VBR) launched in 2004 and can underperform Value near market peaks but overall the 10 year return is identical.

Dorsey Wright Technical Leaders (PDP) tracks similarly to Momentum although returns lag slightly.  Note that the selection methodology is different (uses P&F not price measures) and there is an annual expense ratio of 0.6%.

The plot below shows relative 12 month momentum (Value minus Momentum).  Using this criterion, the strategy would have been invested in Momentum since June 2014 (blue line below zero).  The strategy switches are shown in red.

Momentum is currently outperforming Value more than 10% per annum therefore a large and sustained change in relative performance is needed for a switch to Value.

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