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Empirical research about the existence of momentum and reversal phenomena in emerging stock markets shows that momentum profits are in general positive but not always economically and statistically significant. This paper re-examines the momentum and reversal phenomena in 15 emerging markets, using data from 1995 to 2005. The results are quite different from previous literature where significant evidence has been found of reversals in most of the emerging stock markets, even when they were controlled for systematic risk and size. There are many possible explanations for this puzzle. One common interpretation for the momentum phenomenon in the short-term is the slow diffusion of information, leading to an underreaction in the markets.
Among
the growing literature in behavior finance, two phenomena
have attracted attention and they are, momentum and reversal.
While the momentum phenomenon is the continuation of past
returns, i.e., past winners continue to beat past losers,
the reversal phenomenon is exactly the inverse, i.e., past
losers outperform past winners. DeBondt and Thaler (1985)
wrote one of the first articles to assess strategies based
on past returns. They documented a reversal phenomenon with
data from the US where long-term past losers outperform
long-term past winners over a subsequent period of three
to five years. On the other hand, Jegadeesh and Titman (1993)
proved that in the short-term there is a momentum in the
US data since for three to 12 months, past winners have
continued to outperform past losers.
There
are two types of explanations for these phenomena: behavior
based and risk based. Among the behavior-based explanations
for such phenomena, underreaction and overreaction are the
most common (see Chopra et al., 1992; Barberis et
al., 1998; and Hong and Stein, 1999). The underreaction
of stock prices due to news (for example, earnings announcements)
may cause the momentum, since a slow diffusion of information
among investors could make the path to the `correct' value
of the stock longer than expected. But, for longer periods,
an overreaction of stock prices may occur due to extrapolation
of a series of good or bad news, especially if investors
are overconfident.
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