Momentum ETF Strategies to Ride a Growing Wave | ETF Trends

Investors who believe that last year’s top performers can still maintain their lead ahead could look to momentum exchange traded fund strategies for 2016.

Sam Stovall, S&P Capital IQ U.S. equity strategist, found that from 1991 through 2015, the S&P 500 recorded a compound annual growth rate, or CAGR, of 7.6%, excluding dividends reinvested, writes Todd Rosenbluth, S&P Capital QI Director of ETF Research, in a note.

Stovall calculated that an equal weighting of the best three performing S&P 500 sectors from the prior calendar year resulted in a CAGR of 8.4% and posted a 68% frequency of outperformance. In contrast, the three worst prior-year performers saw below-market CAGR of 6.8% in the following year and only beat the S&P 500 40% of the time.

“Therefore, history says that on a sector level, investors are advised to let their winners ride, rather than trying to buy low, with the intent of selling high later on,” Rosenbluth said.

The momentum strategy basically bets that hot movers will continue to rise, so investors would buy high and sell even higher. Investors who want to follow this momentum strategy will be betting on outperforming sectors flying even higher. Among the top performers over the past year, consumer discretionary led with a 8.4% gain in 2015, followed by healthcare up 5.2%  and information technology up 4.3%.

Additionally, there are now a number of ETF strategies that specifically target the momentum strategy. For example, the iShares MSCI USA Momentum Factor ETF (NYSEArca: MTUM) tracks large- and mid-cap U.S. stocks with relatively high price momentum. The underlying MSCI USA Momentum Index calculates the ratio of each stock’s price returns over the trailing 13 and seven months against volatility over the past three years. Companies are then weighted by their risk-adjusted momentum.