Relative Strength Alert: Will the Macquarie (ASX:MQG) share price keep rising?

Shares in the banking giant Macquarie (ASX:MQG) have risen sharply in 2019, helped by a series of earnings forecast upgrades by analysts. The question now for investors is whether that momentum can carry on.

For the six months ended 30 September 2018, Macquarie's interest income increased 9% to A$2.69B. Its net interest income after loan loss provision increased 6% to A$998M.

Finding stocks that can break-out and move higher on news updates is a tactic used by some of the world’s most successful traders. But it’s not a black-box strategy… knowing the factors that drive relative strength in share prices can help you find profitable momentum trades, too. We can look at Macquarie (ASX:MQG) as an example of how this can work.

How has the Macquarie (ASX:MQG) share price performed?

Macquarie is a conservative, large cap in the Diversified Investment Services industry and it has a market cap of £21,796m (approx. A$40.8 billion).

Over the past year, the Macquarie share price has risen by 19.9%, which sounds solid. Taking into account that the S&P/ASX All Ordinaries index is up slightly over the past year, Macquarie shares have a 1-year relative strength of 15.6%.

Read on to find out what the evidence shows may happen next...

Why relative strength really matters

Relative strength is a crucial tool in the armoury of technical traders and investors. It’s an instant measure of how a stock has performed in comparison with a benchmark.

And while there are no certainties about which way a stock will move next, research shows that price trends often persist.

Studies by Narasimhan Jegadeesh and Sheridan Titman, who are leading experts on momentum, show that stocks with the strongest price strength tend to keep up the pace for anywhere up to one year.

But what causes this?

The answer is that investor behaviour plays a big role. Academics point to two key drivers:

• Under-reaction - prices are slow to move up because investors are hesitant to bid prices higher in stocks that have already been on a strong run.

• Delayed over-reaction - investors chasing rising prices attract the attention of other investors, who follow them into those trades, pushing prices higher and higher.

So the answer is that momentum in stocks with strong relative strength is at least partly caused by a virtuous circle of human emotion. Investors have to constantly re-price these improving shares in their own minds. 

It won’t always happen - and it might take some time - but when momentum takes over, it can push prices higher and higher.

What does this mean for potential investors?

Macquarie is currently among the stocks with the strongest six-month and one-year relative price strength in the market. But momentum on its own is no guarantee of future returns. 

To get a better idea about whether this momentum will continue, it's worth doing some investigation yourself. Indeed, we've identified some areas of concern with Macquarie that you can find out about here.