Exploiting Value and Momentum in Emerging Market Assets

Abstract

The recent empirical literature concludes that characteristics such as value and momentum explain and predict the cross-sectional dispersion of asset returns fairly well. I extend this evidence to Emerging Markets assets by analyzing a comprehensive data set consisting of sovereign bonds denominated in USD, local currency bonds and equity indices. Implementing a parametric portfolio approach allows to assess the conditional information content of value and momentum characteristics, which I construct from past returns. Emerging Market portfolios that exploit the cross-sectional variation in the characteristics outperform an equally weighted Portfolio out-of-sample for all three asset classes as well as for a multi-asset strategy. Furthermore, Sharpe ratios increase substantially and maximum drawdowns are reduced as compared to the naive benchmark. The findings are largely robust to the inclusion of transaction costs. Moreover, I explore the impact of U.S. risk factors on Emerging Market asset returns and show that Portfolios optimized on the basis of value and momentum are not more exposed to U.S. risk than equally weighted benchmarks.