Carry and Time-Series Momentum: A Match Made in Heaven

Abstract

This article introduces a novel approach to combining time-series momentum and carry trade by conditioning trading signals of time-series momentum on the sign of the basis, a key input for the carry trade. We find that this new technique applied to four major asset classes improved the Sharpe ratio of time-series momentum by approximately 0.17 net of fees. The improvement in performance is greater during recessions and, therefore, conditioning time-series momentum signals on the sign of the basis improves performance when it matters the most. Thus, the new approach has practical importance for investors and asset managers who attempt to improve their long-term performance without increasing downside risk during periods of market turbulence.

TOPICS: Portfolio construction, performance measurement, statistical methods

Key Findings

• • We introduce a new approach that conditions time-series momentum trading signals on the sign of the basis.

• • Empirical analysis across the four major asset classes of equities, fixed income, currencies, and commodities shows an improvement in the Sharpe ratio of approximately 0.17 net of fees.

• • The proposed approach is particularly relevant for investors because its performance improvement is greater during recessions.