01 Feb Learning From Driehaus Capital's "Momentum Investing in US Smaller Cap Equities"
Combining fundamental and technical momentum for stock selection.
In this article, Absolute Momentum will be used interchangeably with trend following or time series momentum. Relative Momentum will be used interchangeably with cross-sectional momentum or relative strength.
Driehaus Capital Management explains their investing approach to be rooted in the belief that earnings drive stock prices. They look for companies where future earnings growth is either underestimated or overly discounted. This often results in accelerating earnings growth when a company is in the early stages of positive fundamental change. Fundamental momentum then drives technical momentum. Accelerating EPS and valuation expansion can result in significant stock price appreciation.
A stock is considered to have fundamental momentum when the below are present:
- Positive estimate revisions
- Accelerating growth rates – where revenue and/or earnings per share is growing at an increasing rate from one period to the next
- Positive revenue and earnings surprises
- Improving operating metrics (e.g. backlog, orders, etc.)
A stock is considered to have technical momentum when the below are present:
- Rising stock price
- Rising moving average
- Rising relative strength
- Increasing trading volume
- Positive exposure to medium term momentum (cumulative return over the past 250 trading days, excluding the last 20 trading days)
White Paper: Momentum Investing in U.S. Smaller Cap Equities
Author: Jeff James
Company: Driehaus Capital Management