Whalesbook
Momentum-based stock strategies are seeing one of their deepest drawdowns in over two decades, underperforming the Nifty 50. While some experts argue for patience citing historical long-term returns, others are shifting toward value and quality strategies due to the lack of AI-led growth in India compared to global markets. This trend marks a shift in how portfolios are being rebalanced to handle market volatility.
What Happened
Momentum investing, a strategy focused on buying stocks that are already showing strong price growth, is currently navigating a difficult period in India. Market data indicates that this strategy is experiencing one of its deepest drawdowns in the last 21 years. During this period, momentum-heavy portfolios have significantly trailed the performance of the Nifty 50 index. This phase of underperformance has prompted a debate among fund managers about whether to stick to the momentum strategy or pivot to other approaches like value or low-volatility investing.
Why This Matters For Investors
Many retail investors and mutual funds rely on momentum strategies, expecting them to outperform the broader market during bull runs. When this strategy lags behind the Nifty 50, it creates a challenge for those holding such funds or stocks. It forces investors to consider whether their current portfolio is too reliant on a single strategy that performs well only during specific market cycles. The current performance gap suggests that the market may be moving away from the stocks that led the previous rally, leading investors to look for more stable returns.
The Global Disconnect
A major point of discussion among market experts is India’s lack of participation in the global 'AI trade.' In international markets, the explosion of interest in Artificial Intelligence and related hardware has driven significant stock gains. Because the Indian market structure does not have a heavy representation of these global tech players, local momentum strategies have not seen the same boost that international portfolios have enjoyed. This has led some fund managers to believe that without a similar 'sector leader' to drive momentum, relying solely on this strategy may result in lower returns compared to markets that are more closely tied to global tech trends.
The Debate Between Persistence and Diversification
There is a clear divide in how market experts are approaching this situation. One school of thought remains committed to the momentum strategy, pointing out that historical data shows annual returns of approximately 21% for momentum stocks, which historically outperform the Nifty 50’s average of roughly 15%. Proponents argue that today’s value stocks often evolve into tomorrow's momentum winners, suggesting that investors who have the patience to stay invested through the drawdown may be rewarded in the long term.
Conversely, other experts suggest that relying on a single factor is risky. Managers are increasingly diversifying into 'multi-factor' approaches, which combine momentum with value and quality stocks. They argue that this reduces the impact of volatility, especially since momentum stocks tend to be concentrated in cyclical sectors like chemicals, metals, and pharmaceuticals. When these sectors lose steam, the impact on a momentum-focused portfolio can be sharp and rapid.
Risks and Market Context
Investors should be aware that momentum stocks are inherently cyclical and can be prone to quick reversals. When market sentiment shifts, stocks that grew the fastest are often the first to see price corrections. Additionally, while some active funds have seen high returns from specific stocks like MTAR, Sterlite, and GE Vernova over the past year, these gains are often specific to the manager's picks and not guaranteed across the wider momentum index. Furthermore, gold has emerged as a significant competitor in terms of performance over the last five years, acting as a potential hedge for those looking to move money away from high-volatility stock strategies.
What Investors Should Track
Moving forward, investors may want to pay attention to how factor-based indices, such as the Nifty 200 Momentum 30, perform against broader indices. The key monitorable is not just the stock price, but the underlying sector leadership. If the market continues to favor 'value' over 'growth,' momentum strategies may remain under pressure. Investors may also look for signs of portfolio diversification in their own holdings, rather than relying on a single investment style, to better manage potential risks during market downturns.