Alpha factors and signals
Momentum and mean-reversion
4 min
Two of the oldest and most studied factors are direct opposites, and reconciling them teaches a deep lesson about time horizon.
Momentum
Momentum is the tendency of winners to keep winning and losers to keep losing over the medium term (roughly 3 to 12 months). Buy what has been rising, sell what has been falling. It is one of the most robust effects in finance, documented across countries, centuries and asset classes.
Why it persists: investors underreact to news and pile in gradually, and there is a behavioural reluctance to sell winners and losers at the right time. ForecastingStocks surfaces recent strength in its summaries precisely because medium-term trend carries information.
Mean-reversion
Mean-reversion is the opposite: prices that move too far from a fair level tend to snap back. It dominates over short horizons (days) and long horizons (3 to 5 years), where overreaction reverses.
They are not contradictory
The apparent paradox dissolves once you separate horizons:
- Very short term (days) — mean-reversion (overreaction snaps back).
- Medium term (months) — momentum (trends persist).
- Very long term (years) — mean-reversion again (valuations reassert).
The single most important question for any price-based signal is therefore: over what horizon? The same indicator can be a buy signal on one timeframe and a sell signal on another. A signal without a stated horizon is meaningless.
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