Momentum and individualism: another stereotype built on sand…

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The momentum factor is the tendancy for stocks to show persistence in performance. In financial markets it can be thought of as the phenomenon of following the herd: buy those stocks that are building up a good head of steam and you will outperform when the herd piles in…

Since Asian cultures are generally thought to be more collectivistic and less individualistic than those in the West, one would expect momentum to be a stronger phenomenon in Asian financial markets. In fact, the opposite is true.

Here is why this particular stereotype doesn’t hold:

 The Dutch social psychologist Geert Hofstede developed a measure of individualism, the individualism index, in his book “Culture Consequences: Comparing Values, Behaviours, Institutions and Organizations Across Nations”, published in 2001. This index reflects the degree to which people focus on their own characteristics, such as their own abilities, to differentiate themselves from others. It pertains to the degree to which people in a country tend to have an independent rather than an interdependent self-construct.

Here is a table of some individualism index measures from a classic multi-country psychological survey of employee values conducted by Geert Hofstede between 1967 and 1973, with zero being the least individualistic cultures and 100 the most individualistic:

Exhibit 1: Individualism Index by country

MomentumSource: Andy Chui, Sheridan Titman and John Wei, ‘Individualism and Momentum around the World’, as of 01/09/2017

The cultural gap between Asia and the Western world is quite clear here and corresponds to the predominant stereotype, as seen in most movies.

As momentum relies on the tendancy to follow the leader or herd, you would think it should work better in Asia, where societies tend to be more collectivist, yet the opposite is true. Quantitative portfolio managers have identified this trait when implementing factor-investing strategies: Momentum actually works better in Western financial markets, whereas the returns from momentum factor strategies  are non-significant in Asian markets.

The reason for this apparent contradiction is that individualism actually bolsters the two psychological sources for momentum: over-confidence and a need for self-validation.

Over-confidence relates to the fact that we humans tend to over-rate the quality of the information at our disposal, or at least our ability to analyse it, even when we are aware that others have the same information or that the information is irrelevant.

Among other things, this tendancy leads to the domestic bias, meaning that investors tend to overweight their own home market simply because they (mistakenly) believe that their familiarity with it gives them an ability to understand it and an edge relative to markets with which they are unfamiliar.

Another notable effect is called the endowment effect: people prefer what they already own (and know), so that buying a stock creates an attachment between the investor and the stock, often leading them to buy more of it – and so on, amplifying the momentum effect.

Self-attribution is about us humans tending to overrate our contribution to successes, and diminish our share of responsibility for failures. It reinforces over-confidence: this stock must be going up because I bought it, so I’m going to buy more.

Western societies, being more individualistic, are actually more prone to these two emotional biases, while collectivist Asians, looking for consensus, end up mitigating such emotion-driven errors. There is less self-attribution if the investment decision was a collective one, and also less reason to be overconfident when there was disagreement in the group before investing.

James Montier, one of the pioneers of behavioural finance, had already identified these ‘sins’ of over-confidence and self-attribution, in his white papers as advisor to investors: don’t listen to people who think like you, always look for opinions that differ from yours, it’s only too easy to get an echo from those in our immediate vicinity. It also reminds us to be cautious with lazy stereotypes!

Written on 01/09/2017


Smart beta – defines a set of investment strategies that emphasize the use of alternative index construction rules to those employed in constructing traditional indices baced on market capitalization

Factor investing – an investment strategy in which the selection of securities is based on characteristics of stocks that are associated with higher returns

Momentum – the rate of acceleration in a security’s price or the volumes being traded

Stereotype – a widely held but fixed and oversimplified image or idea of a particuler type of person or thing

Individualism – the habit or principle of being independent and self-centered, of valuing personal success over group achievement (in turn associated with a need for greater self-esteem and the pursuit of personal happiness).

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