Momentum rotation to hit technology and financials

This week Tesla was also removed from S&P’s ESG Index due to the company lacking on the S and G driven by questionable working conditions at its factories and investigations related to accidents with its autopilot, according to the S&P statement. Other ESG funds are still holding Tesla, but the tide is shifting and Tesla could experience more selling from ESG funds going forward. Combined with the momentum rotation this could lead to a sizeable selling from multiple funds. Momentum strategies come in many different shapes and across private accounts, advisory accounts, ETFs, mutual funds, hedge funds etc. and thus the combined rotation is a lot bigger than the MTUM would suggest.

The momentum factor explained

The MSCI Momentum Factor methodology is defined in this paper and is basically a combined measure of the 6-month and 12-month price momentum (that is total return over that period), where the last month is removed due to short-term mean-reversion effects in the market (what has risen a lot recently tends to go down the following month). These raw measures of momentum is then standardized using the annualized volatility of the stock using 3 years of weekly observations. This combined momentum score is then further standardized to a Z-score which is then winsorized to 3 or -3 which means that any value above or below 3 or -3 are capped at these thresholds. This avoids dramatic outliers to cause a big weight change which is costly for the fund and very high Z-score values would most likely be noise anyway. These Z-scores are then turned into a momentum score which is multiplied by the underlying weight in the tracking index and then normalized to 100%, so the fund becomes a long-only fund with 100% investment. This means that a dramatic shift in the momentum score for those stocks with a large weight in the underlying will get increased or decreased in an amplified manner.