Volatility Weighting Applied to Momentum Strategies

In this article, the authors consider two forms of volatility weighting—own volatility and underlying volatility—applied to cross-sectional and time-series momentum strategies. They present some simple theoretical results for the Sharpe ratios of weighted strategies and show empirical results for momentum strategies applied to U.S. industry portfolios. The authors find that both the timing effect and the stabilizing effect of volatility weighting are relevant. They also introduce a dispersion weighting scheme that treats cross-sectional dispersion as (partially) forecastable volatility. Although dispersion weighting improves the Sharpe ratio, it seems to be less effective than volatility weighting. TOPICS:Analysis of individual factors/risk premia, portfolio construction, statistical methods, performance measurement