Cross-Sectional Momentum in the Commodity Market

Momentum trading is often divided into 2 categories: time-series momentum and cross-sectional momentum. Time-series based trading strategies generate trading signals based on the asset’s past returns. A typical time-series trading strategy usually involves buying assets with positive trend signals and selling those with negative trend signals. In contrast, cross-sectional trading strategies generate trading signals based on the relative performance of assets. A typical cross-sectional trading strategy involves buying assets with the highest-ranked trend signals and selling those with the lowest-ranked trend signals. So basically this is a relative value strategy.

Reference [1] examined trend trading in the commodity market from the cross-sectional momentum perspective. The authors conducted a study on a portfolio of 35 commodity futures. They pointed out,

In this paper, we provide a trend factor that exploits the short-, intermediate-, and long-run moving averages of settlement prices in commodity futures markets. It outperforms the momentum benchmark significantly. During our sample period January 2004–December 2020, the trend factor generates statistically and economically large returns while the average return of the momentum factor is insignificant. The trend factor also has less downside risk than the momentum factor. The returns of the trend factor cannot be explained by existing multifactor models. The trend factor also generates a significant and positive risk premium.

In short, cross-sectional momentum exists in the commodity market and it is possible to construct a profitable trend trading strategy. The authors went on to identify the underlying risk/PnL driver of the thus developed trading strategy,

…the trend factor is correlated with funding liquidity measured by the TED spread. Overall, our results indicate that past prices contain important information on the expected returns in commodity futures markets.

In other words, the underlying PnL driver is the TED spread which represents the funding liquidity.

References

[1] Han, Yufeng and Kong, Lingfei, A Trend Factor in Commodity Futures Markets: Any Economic Gains From Using Information Over Investment Horizons? (October 31, 2021). Available at SSRN: https://ssrn.com/abstract=3953845

Further questions

What's your question? Ask it in the discussion forum

Have an answer to the questions below? Post it here or in the forum

LATEST NEWSMarket misery deals sovereign wealth funds historic setback in 2022 -study
Market misery deals sovereign wealth funds historic setback in 2022 -study

LONDON — Heavy falls in stock and bond markets over the last year have cut the combined value of the world’s sovereign wealth and public pension funds for the first time ever – and to the tune of $2.2 trillion, an annual study of the…

More news
LATEST NEWSRussia's war on Ukraine latest: New Year's Day attacks
Russia's war on Ukraine latest: New Year's Day attacks
More news
LATEST NEWSNorth Korea's Kim orders new ICBM, bigger nuclear arsenal amid tension
North Korea's Kim orders new ICBM, bigger nuclear arsenal amid tension
More news
LATEST NEWSSam Bankman-Fried denies moving funds from Alameda wallets
Sam Bankman-Fried denies moving funds from Alameda wallets
More news
LATEST NEWSBlasts heard in Kyiv, around Ukraine in early hours of New Year's Day
Blasts heard in Kyiv, around Ukraine in early hours of New Year's Day
More news

Leave a Reply