Conventional short-term reversal strategies exhibit dynamic exposures to the Fama and French (1993) factors. We develop a novel reversal strategy based on residual stock returns that does not exhibit these exposures and consequently earns risk-adjusted returns that are twice as large as those of a conventional reversal strategy. Residual reversal strategies generate statistically and economically significant profits net of trading costs, even when we restrict our sample to large-cap stocks over the post-1990 period. Our results are inconsistent with the notion that reversal effects are the result of trading frictions or non-synchronous trading of stocks and pose a serious challenge to rational asset pricing models.

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ERIM Top-Core Articles
Journal of Financial Markets
Erasmus Research Institute of Management

Blitz, D., Huij, J., Lansdorp, S., & Verbeek, M. (2013). Short-term residual reversal. Journal of Financial Markets, 16(3), 477–504. doi:10.1016/j.finmar.2012.10.005