Idiosyncratic Momentum Factors

The paper examines the risk and return characteristics of four distinct (idiosyncratic) momentum factors, as well as their time-varying exposures to common risk factors. The research demonstrates that applying more advanced factor models in returns residualization, such as the Fama and French five-factor model and the Stambaugh and Yuan mispricing model, enhances the risk and return profile of momentum factors, constructed as a zero-cost winners-minuslosers portfolio, and effectively reduces time-varying exposures to systematic risk factors. Idiosyncratic momentum factors exhibit lower downside risk as compared to total return momentum factors. This paper also discusses the risk-based versus behavior-based theories which aim to explain the returns of momentum either as a compensation for risk or as a result of behavioral mispricing correction and suggests that both theories are important in explaining momentum returns, but lean more towards behavioral explanations, such as underreaction effect resulting from slow dissemination of information among investors. This research supports recent findings that indicate that idiosyncratic momentum is an anomaly distinct from total return momentum.