Value And Momentum Investing In Frontier Stock Markets

Value and Momentum investing have been studied across many different markets and asset classes (Asness et al 2013) and have shown to be effective factors. A working paper, “Frontier Stock Markets: Local vs Global Factors” by Douglas W. Blackburn and Nusret Cakici examines Value and Momentum investing in Frontier Markets from 2005-2016. This paper is unique because prior research has focused on out of sample value and momentum factor testing in emerging markets, but not in frontier markets. The caveat, of course, is the short sample period of just over 10 years.

The paper finds several things:

Value and Momentum investing work in Frontier Markets, both in small and large firms.

The 4-factor model (Market, Size, Value and Momentum) outperforms the single-factor model (Market) in explaining frontier market returns. More important however, is that the Local factors (Market, Size, Value and Momentum) explain returns better than Global Factors — this evidence suggests that frontier and global markets are segmented.

The portfolio construction and results

The paper’s goal is to examine how value and momentum investing (as well as size) work in frontier markets.

The standard factors are created using the frontier market data:

SMB (Small minus Big) — Size factore formed on market capitalization

HML (High minus Low) — Value factor formed on Book-to-Market (B/M)

WML (Winners minus Losers) — Momentum factor formed on 12_2 momentum

The data used in the paper is from 2005-2016 and includes the following countries:

Europe – Croatia, Estonia, Lithuania, Kazakhstan, Romania, Serbia, and Slovenia

Africa – Kenya, Mauritius, Morocco, Nigeria, and Tunisia

Middle East – Bahrain, Jordan, Kuwait, Lebanon, and Oman

Asia – Bangladesh, Pakistan, Sri Lanka, and Vietnam

The paper examines the results to these 4 factors in Table 2 of the paper (Panel A shown below). From the table, there is not a significant size premium in Frontier markets (examining the SMB returns). However, both Value and Momentum investing factors work in Frontier Markets. The paper shows the results to the standalone factors (HML and WML), as well as the factors controlling for firm size. HML_S and HML_B refer to the HML returns within Small and Big firms respectively (same for WML). These results imply that value and momentum investing work both within small and large firms in frontier markets, as both factors are significant.