The framework for our analysis is a novel analytical decomposition of the short-term reversal profits. The reversal profit is first decomposed into an across-industry component and a withinindustry component. The across-industry component measures the profit to an across-industry reversal strategy that buys loser industries and sells winner industries; the within-industry component measures the profit to a within-industry reversal strategy that buys losers and sells winners within each industry.
In addition, Avramov, Chordia, and Goyal (2006) argue that the reversal effect is present only in small, illiquid stocks with high turnover, and Khandani and Lo (2007) document a dramatic decline over time in the efficacy of the strategy. Finally, the strength of the reversal strategy appears to depend on arbitrageurs ability to access capital: Nagel (2012) documents a strong positive correlation between the return of a short-term-reversal and the level of the VIX. He argues that this covariation is consistent with the “... withdrawal of liquidity supply and an associated increase in the expected returns from liquidity provision .
Khandani, Amir E., and Andrew W. Lo, 2007, What Happened To The Quants in August 2007?, Journal of Investment Management 5, 5–54.
King, Robert G., and Sergio T. Rebelo, 1993, Low frequency filtering and business cycles, Journal of Economic Dynamics and Control 17, 207–231.
Lehmann, Bruce N., 1990, Fads, martingales, and market efficiency, Quarterly Journal of Economics 105, 1–28.
Nagel, Stefan, 2012, Evaporating liquidity, Review of Financial Studies 25, 2005–2039.