Momentum investing is simple, when you break it down. The idea is to regularly rebalance your portfolio. You want to always own stocks that performed best over a given time frame, say six or 12 months. So then, over that period, keep an eye on the 20% of your stocks that had the best performance. Those are the ones you want to continue to invest in over the next period. If you do this, it’s really giving yourself an advantage as you continue to trade, since you can be fairly confident (though not completely certain) that this top 20% will continue to perform well, even if riskier stocks that you buy do not.
There are a number of advantages to including this kind of momentum investing in your strategy. First, you don’t have to spend so much time researching these stocks anymore – you’ve already done that. You can instead spend that time researching newer stocks that you’re planning to take a bigger risk on. Of course, don’t tune out completely to the momentum stocks; things can change. But if they’ve performed well for a while, and there haven’t been any dramatic shifts, then you can really keep those in your back pocket without having to think about them too much.
Additionally, this guarantees that you’ll be able to remove the emotional part of trading for these stocks, something I’ve advised on in a past blog post. If it’s automatic, like a rule that you’ve pre-established for yourself, something that you’re going to do all the time, no matter what, then you’re not doing it because you “made a killing” or “lost a ton.” It’s automatic: It fell in the category of that 20%, so you keep it going, without even thinking, without getting emotional.
Now, what if it doesn’t perform so well next time? Then, your decision is just as easy: Since it’s no longer in your top 20%, you don’t invest in it anymore in the next period. Your new 20% has been redefined with other stocks, and now those are the stocks that you’re continuing with automatically.
Of course, like any investment strategy, this isn’t a guaranteed way to make money. Nothing is. But it’s been a (mostly) successful strategy for many investors, and quite simply, it can be for you, as well. Look, you follow momentum in other areas of life, right? When something is going well, you keep it going, don’t you? So why not with investing, too? It only makes sense!