Residualizing Momentum in China
Previous studies have reported weak results for standard Momentum strategies in China. This paper1 finds that a more sophisticated Momentum strategy does generate significant profits in the Chinese equity market.
This approach ranks stocks not on their total returns but on their residual returns that remain after adjusting for the systematic risk characteristics of stocks. For instance, if a stock with a market beta of 2 goes up 20% in a period when the market goes up 10%, this is exactly the return you would expect this stock to have.
Residual momentum is defined as the return in excess (or below) the expected return of a stock implied by its risk characteristics. The residual momentum approach was developed by Robeco about a decade ago, and we are happy to see that the success of this strategy carries over to the previously unexplored Chinese market, which is what we also found in our research.