Can Exchange Traded Funds be Used to Exploit Country and Industry Momentum?

There is overwhelming empirical evidence on the existence of country and industry momentum effects. This line of research suggests that investors who buy countries and industries with relatively high past returns and sell countries and industries with relatively low past returns will earn positive risk-adjusted returns. These studies focus on country and industry indexes that cannot be traded directly by investors. This warrants the question whether country and industry momentum effects can really be exploited by investors or are illusionary in nature because they exist only on non-tradable assets. We analyze the profitability of country and industry momentum strategies using actual price data on Exchange Traded Funds (ETFs). We find that, over the sample periods that these ETFs were traded, an investor would have been able to exploit country and industry momentum strategies with an excess return of about 5% per annum. These returns cannot be explained by unconditional exposures to the Fama-French factors. The daily average bid-ask spreads on ETFs are substantially below the implied break-even transaction costs levels. Hence, we conclude that investors that are not willing or able to trade individual stocks may use ETFs to benefit from momentum effects in country and industry portfolios