The Power of Momentum

Gary Antonacci of Optimal Momentum blog has a great white paper out titled 'Risk Premia Harvesting Through Momentum' that details...

Momentum is the premier market anomaly. It is nearly universal in its applicability.

Gary then outlines how an investor can easily apply momentum through the use of asset pair modules to "effectively harvest risk premium profits". I highly recommend anyone interested in momentum or learning more about momentum to check out the (easy to understand) white paper that you can download here.

Reading the paper gave me an idea for a test that I felt would further show how universal momentum truly is. The test? How well would an investor have done applying momentum to the various cities that make up the Case Shiller Home Price Index, pretending (of course) that each city index was investable and liquid (i.e. things they aren't).

First, a quick update on the Case Shiller Home Price Index. To the Huffington Post:

The Standard & Poor's/Case-Shiller home-price index shows that prices dropped in February from January in 16 of the 20 cities it tracks.

The steady price declines have brought the nationwide index to its late 2002 level. Home prices have fallen 35 percent since the housing bust.

Prices in nine cities fell to their lowest levels since the housing bust. The average price in Atlanta fell 17.3 percent in February compared with a year earlier. That's the biggest annual drop in the history of the index for any city.

Yikes... let's see what momentum can do with this mess.

Rules...

1) Take the 6-month rolling return for each city

2) Allocate the next month to the city that had the highest six month return

How well would we have done?

The chart below outlines the performance of this relative strength allocation, the composite-10, and Portland (which happened to be the best performing city over this time frame... who knew).

For those keeping track at home, that's a 12.7% annualized return for the relative strength index vs. 3.3% for the composite-10 and 4.8% for Portland, despite there being no rule that allowed an investor to get out of the market.

Not too bad.

Source: Case Shiller

One reason I was drawn to Gary's paper is that it is remarkably similar to something I've been working on for the better part of the past year, which itself is based on conversations that I've had with Meb Faber from World Beta over the past few years. If you haven't read Meb's paper A Quantitative Approach to Tactical Asset Allocation, another strong recommendation.

Home Prices Heading Down

Source: S&P

Case Shiller Price Index

Haven't posted this in a while...

As I've previously detailed, CPI may not reflect actual price levels for an individual who:

• does not own a home
• would like to own a home
• will likely soon buy a home

Why? Full details here, but in a nutshell the CPI measure includes a 'home owners equivalent rent', which has not fluctuated nearly as much as the actual home price level in recent years (both on the way up and on the way down).

The below shows headline CPI vs. a "Case Shiller Price Index" that swaps in the actual home price levels (per the Case Shiller) for the equivalent rent figure (assuming a constant ~25% weighting of owners equivalent rent within the broader index and flat price levels in December and January).

By this measure we see much higher inflation pre-crisis than reported, much greater deflation post-crisis, and the potential beginning stage of another divergence.

Source: BLS / S&P

Housing Rebound Stalls

The Case Shiller home price index since August 2000. Rocky rode, but up ~36% (3.1% annualized) since August 2000. To put that in perspective, that compares to a 25% increase (2.3% annualized) in CPI.

Source: S&P

Case Shiller: Housing Rebound Losing Steam?

LA Times reports:

“The housing market may be in better shape than this time last year, but, when you look at recent trends there are signs of some renewed weakening in home prices,” said David M. Blitzer, chairman of the Index Committee at Standard & Poor’s. “In the past several months we have seen some relatively weak reports across many of the markets we cover.”

A separate Case-Shiller index that is released quarterly and covers the U.S. showed home prices fell a seasonally adjusted 1.3% in the first quarter of the year compared to the fourth quarter of 2009.

This weakening becomes more interesting due to all the buyers that flooded the market to take advantage of the tax credit. One would think this would have resulted in higher prices, but we'll see the full impact of that in April's figure (and potential decline post-credit in May).



Source: S&P