The Dual Momentum Strategy is a well-known investment and trading approach that combines relative momentum (comparing assets to one another) and absolute momentum (comparing the asset to its own past performance). This strategy is designed to capture strong trends by investing in the best-performing assets, whether in stocks, forex, commodities, or indices. By focusing on both relative and absolute momentum, the strategy seeks to maximise returns while minimising risk.

Why the Dual Momentum Strategy Works

• Relative Momentum helps identify which assets are performing best compared to others, ensuring that you are investing in the strongest trends.
• Absolute Momentum filters out assets that are in a downtrend, preventing investments in assets that are likely to lose value.
• By using both forms of momentum, the strategy aims to capture strong trends and avoid assets that are underperforming or in a losing position.
• The strategy’s simplicity and reliance on momentum make it effective across various timeframes and markets, including long-term and short-term investments.

How the Dual Momentum Strategy Works

The Dual Momentum Strategy involves two key components:

1. Relative Momentum: This is the comparison of multiple assets or asset classes to determine which one is performing the best.
2. Absolute Momentum: This looks at the performance of a specific asset relative to its past performance to decide whether to stay invested in it or move to another asset.

Together, these two types of momentum allow traders to invest in the strongest assets with positive price trends, while avoiding assets that show negative momentum.

1. Relative Momentum (Comparing Assets)

Relative momentum involves comparing the performance of different assets to see which ones are performing better. For example, you could compare the performance of two forex pairs (such as EUR/USD vs. GBP/USD) or compare different stocks (e.g., Apple vs. Microsoft).

• Select a group of assets to compare (e.g., stocks, forex pairs, commodities, or indices).
• Compare the performance of each asset over a specific period (e.g., 1-month, 3-month, 6-month, or 12-month).
• The asset with the highest return over the chosen period is considered the best-performing asset, and it is the one to invest in.

The idea is to shift capital into the strongest-performing assets that are exhibiting the best momentum.

2. Absolute Momentum (Comparing an Asset’s Own Past Performance)

Absolute momentum measures how an asset is performing compared to its own past performance. In this case, you compare an asset’s price performance over time to determine if it’s in a bullish trend (positive momentum) or bearish trend (negative momentum).

• If the asset is above a predetermined threshold, such as its 200-day moving average, it is considered to have positive absolute momentum.
• If the asset is below the 200-day moving average or in a downtrend, it is considered to have negative absolute momentum.

The key here is to only invest in assets with positive absolute momentum, as those are the assets likely to continue performing well.

3. Combine Both Relative and Absolute Momentum

To implement the Dual Momentum Strategy, you combine both types of momentum:

1. Relative Momentum: Choose the best-performing asset from a group of assets.
2. Absolute Momentum: Only invest in the selected asset if it has positive absolute momentum (e.g., price above its 200-day moving average).

By combining relative momentum to pick the strongest assets and absolute momentum to ensure the asset is trending positively, you ensure that you are investing in assets with both strong relative performance and healthy price trends.

4. Trade Execution and Timeframe

• Timeframe: The strategy works on both long-term and short-term timeframes. For long-term investors, you may use monthly or quarterly comparisons for relative momentum and the 200-day moving average for absolute momentum. For shorter-term traders, daily or weekly comparisons for relative momentum and shorter-term moving averages (like the 50-day moving average) could be used.
• Entry: Enter a position in the best-performing asset that has positive absolute momentum.
• Exit: Exit a position when the asset loses relative momentum (it starts to underperform other assets) or when the asset falls below the threshold for absolute momentum (for example, when its price drops below its 200-day moving average).

5. Risk Management and Trade Management

• Stop-Loss: Use a stop-loss based on key support or resistance levels or a percentage-based approach to limit potential losses.
• Take-Profit: Take profits at key resistance levels or when the asset shows signs of losing momentum (e.g., it crosses below the moving average or starts to underperform relative to other assets).
• Rebalancing: The Dual Momentum Strategy often requires rebalancing positions every few months to ensure you are invested in the best-performing assets.

Risk Management: Always use a risk-to-reward ratio of at least 1:2, ensuring that your potential reward justifies the risk taken on each trade.

Example: Dual Momentum Strategy on Forex

1. Step 1: Relative Momentum:
   • You compare the performance of three major forex pairs: EUR/USD, GBP/USD, and USD/JPY over the past 3 months.
   • You find that EUR/USD has had the highest return in the last three months.
2. Step 2: Absolute Momentum:
   • You check the 200-day moving average for EUR/USD. Since the price is above the 200-day moving average, the asset shows positive absolute momentum.
3. Step 3: Enter the Trade:
   • You decide to enter a long position in EUR/USD, as it is both the strongest-performing asset and shows positive absolute momentum.
4. Step 4: Risk Management:
   • You place a stop-loss just below the recent swing low, targeting the next resistance level as your take-profit.

Strategy Summary Table

Component	Details
Relative Momentum	Compare assets’ performance over a set period (1-month, 3-month, etc.)
Absolute Momentum	Check whether the asset’s price is above or below a threshold, like the 200-day moving average
Entry Trigger	Invest in the strongest asset with positive absolute momentum
Stop-Loss	Based on support/resistance or a percentage-based approach
Take-Profit	Key resistance/support levels or relative performance indicators
Timeframe	Monthly or quarterly for long-term; daily or weekly for short-term
Best Use Case	Forex, stocks, and commodities with a focus on momentum

Example: Dual Momentum Strategy on Stocks

1. Step 1: Relative Momentum:
   • Compare the performance of three major stocks: Apple (AAPL), Microsoft (MSFT), and Tesla (TSLA) over the past 6 months.
   • Apple (AAPL) has had the highest return.
2. Step 2: Absolute Momentum:
   • Check AAPL’s price relative to its 200-day moving average. The price is above the 200-day moving average, confirming positive absolute momentum.
3. Step 3: Enter the Trade:
   • Enter a long position in Apple (AAPL), as it shows both the strongest relative performance and positive absolute momentum.
4. Step 4: Risk Management:
   • Set a stop-loss below AAPL’s recent support at $130 and aim for a take-profit at $150, where the next resistance is.

Conclusion: Profit from the Best-Performing Assets with the Dual Momentum Strategy

The Dual Momentum Strategy offers traders a systematic approach to investing in strong trends by combining both relative and absolute momentum. By selecting the best-performing assets and ensuring they exhibit positive momentum, traders can reduce risk while maximising potential returns.

To learn how to implement the Dual Momentum Strategy effectively across various markets, enrol in our Trading Courses at Traders MBA and gain the skills to trade with momentum confidently.