How do you make money in the stockmarket? A common, if flippant, answer is: “buy low, sell high”. In other words, invest in companies that look cheap, and sell them if and when they get expensive.
How do you know that a company is cheap? There are many ways to value a company. But they mostly involve looking at its accounts. How much profit does it make? What are the assets it owns – from factories or shops, to brands and intellectual property – really worth? These are all sometimes known as “the fundamentals”.
But there’s another way to invest that doesn’t involve the fundamentals. In fact, it involves doing the opposite of the “buy low, sell high” advice. This is momentum investing. Momentum investing is based on the observation that trends in the stockmarket can continue for longer than most investors expect.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Share prices that are already rising can simply keep going higher, even if they look expensive. Meanwhile, companies whose share prices are collapsing can keep falling ever lower, regardless of how cheap they look on a fundamental basis. In other words, momentum investors buy stocks that are going up, and avoid (or even sell) those that are going down.
How do momentum investors decide when a trend is worth joining, and when it might be coming to an end? They generally use technical analysis. Technical analysis involves looking at charts of share prices and using various pattern-spotting methods to find promising entry and exit points.
Momentum investing does rather contradict the academic idea that the market is efficient. In theory, rational investors shouldn’t buy a stock simply because lots of other people are. And yet, in practice, several studies have shown that momentum investing works.
As with any investment strategy, momentum does not outperform all the time. You should view it as another way to diversify your portfolio. Of course, unless you are willing to spend a great deal of time drawing lines on charts and researching technical analysis techniques, it’s very difficult for an individual investor to replicate the strategy.
However there are now several momentum strategy funds available, which allow private investors to access the strategy without having to do it themselves. For more on those, subscribe to MoneyWeek magazine.
-
What is a dividend yield?Videos Learn what a dividend yield is and what it can tell investors about a company's plans to return profits to its investors.
-
High earners to pay nearly £2000 more in tax due to fiscal dragVideos The government froze tax thresholds, which will drag employees into higher tax bands as wages rise with inflation. We explain what fiscal drag is, and how to avoid it.
-
What is a deficit?Videos When we talk about government spending and the public finances, we often hear the word ‘deficit’ being used. But what is a deficit, and why does it matter?
-
Too embarrassed to ask: what is moral hazard?Videos The term “moral hazard” comes from the insurance industry in the 18th century. But what does it mean today?
-
Too embarrassed to ask: what is contagion?Videos Most of us probably know what “contagion” is in a biological sense. But it also crops up in financial markets. Here's what it means.
-
Too embarrassed to ask: what is a marginal tax rate?Videos Your marginal tax rate is simply the tax rate you pay on each extra pound of income you earn. Here's how that works.
-
Too embarrassed to ask: what is stagflation?Videos Traditionally, economists and central bankers worry about inflation or recession. But there is one thing worse than both: stagflation. Here's what it is
-
Too embarrassed to ask: what is the metaverse?Videos The term “metaverse” sounds like something out of a science fiction novel (and it is). But what does it actually mean?
