Alpha Architect on Investment Factors in Bonds

In this recent post, AlphaArchitect reports on efforts to deconstruct factor influence on corp bonds. To quote: "The presence of historical prices impacting future returns, i.e., momentum, has been well researched in the equity market, which we’ve covered here. We’ve also closely looked at momentum in bond markets here, here, and here. What the Bali, Subrahmanyam, & Wen are exploring is whether momentum shows up in the corporate bond market, and if so where?"

The conclusions are broader than what I put into this post but this point was interesting:

1. Some of the most interesting conclusions of this paper came in the robustness tests finding the sources of STR, MOM, and LTR.  When digging deeper into short-term reversals in the corporate bond market the researches found that STR disappears in the most liquid bonds and was strongest in the least liquid section of the bond market.  This indicates that there is a liquidity-based explanation for short-term reversals.  The researchers also found that the momentum effect was strongest in the highest default/credit risk bonds, while the factor becomes statistically insignificant in the lowest default/ credit risk section of the market.  In addition to those findings, they also found that momentum is strongest in times of economic downturns and periods of high default risk.  In fact, the impact of the financial crisis was so strong that when the financial crisis is excluded from the data the MOM factor becomes statistically insignificant.  Much the same as momentum the long-term reversal factor was strongest in the highest credit risk and highest default risk bonds.  In fact, the researchers found that credit rating downgrades are an important source of the long-term reversal effect.

While I don't have the research chops to critique, comment, or replicate, I find the feedback from the reported research to at least be confirmatory.  I can say that because:

1. The single biggest trade profit I ever received over an entire lifetime by way of an active time-delimited trading position made with existing capital was in high yield at the depths of the financial crisis in Q1 2009, something that was held for approximately 24 months thereafter.  While the at-the-time 25 point spread seems like a no-brainer in retrospect looking from our current perch in 2018, I will admit that at the time it took some courage to un-freeze from my death-crouch and commit meaningful and steadfast capital

2. It's been a while since I have done the analysis but since I trend-trade across credit risk categories I once took a look at what works best over what timeframe.  High yield etfs over 12-18 months won.  My take away was that they had equity-like behavior and high beta so I was not all that surprised.