Quality Is Now a Momentum Trade

Momentum investors typically focus on stocks that are rising the fastest, often using a one-year time frame to measure. Last year the momentum factor struggled relative to other investment styles. Chasing trends was difficult when the economic and market narrative kept shifting every few months.

More recently, as recession fears fade and a soft-landing seems to be taking hold, momentum has enjoyed a resurgence. The investment style has also been supported by an increasing fixation on long-term structural themes, notably artificial intelligence. As a result, year-to-date, momentum has significantly outperformed other investment styles, such as value investing (see Chart 1).

MSCI World factor index performance - year to date

Source: LSEG Datastream, chart by BlackRock Investment Institute, Mar 19, 2024

What is interesting about the current rally is the composition of the companies included in the momentum trade. In the past, momentum has often been associated with more speculative, lower-quality parts of the market. Today, momentum names are increasingly high-quality companies, i.e., firms defined by high profitability, consistent earnings, and relatively low debt. This dynamic is evident in the increasing representation of highly profitable companies, as measured by return-on-equity, ROE, in momentum strategies measure of a company's net income divided by its shareholders' equity ).

We see a similar pattern using more granular systematic signals. Based on research by the Global Allocation systematic research team, the top performing signals in Q1’24 have mostly been tied to cash-flow momentum and earnings. Based on this research, some of the best performing systematic signals are cash-flow momentum, analyst revisions, margin consistency and stable revenue growth. Put differently, investors are investing in companies generating strong cash-flow and consistent earnings.

Momentum may have further to go.

The rally in mega-cap growth has been going on for some time. For many of these names, valuations appear stretched, if not outright expensive. That said, company fundamentals underpinning the rally are still very much in place. To the extent many of these businesses are levered to long-term trends such as artificial intelligence, semiconductors (a key component in AI enablement), internet commerce, and innovations in pharmaceuticals, the momentum trade may continue a bit longer.

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About the Author

Russ Koesterich, CFA, JD, Managing Director and portfolio manager, is a member of the Global Allocation team.

Mr. Koesterich's service with the firm dates back to 2005, including his years with Barclays Global Investors (BGI), which merged with BlackRock in 2009. He joined the BlackRock Global Allocation team in 2016 as Head of Asset Allocation and was named a portfolio manager of the Fund in 2017. Previously, he was BlackRock's Global Chief Investment Strategist and Chairman of the Investment Committee for the Model Portfolio Solutions business, and formerly served as the Global Head of Investment Strategy for scientific active equities and as senior portfolio manager in the U.S. Market Neutral Group. Prior to joining BGI, Mr. Koesterich was the Chief North American Strategist at State Street Bank and Trust. He began his investment career at Instinet Research Partners where he occupied several positions in research, including Director of Investment Strategy for both U.S. and European research, and Equity Analyst. He is a frequent contributor to financials news media and the author of two books, including his most recent "The Ten Trillion Dollar Gamble."

Mr. Koesterich earned a BA in history from Brandeis University, a JD from Boston College and an MBA from Columbia University. He is a CFA Charterholder.

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