> This English version was automatically translated from the Chinese original. Please refer to the original Chinese article if any wording differs.

Why can’t the momentum strategy simply “forbid chasing highs”?

Many friends asked me, since the ETF momentum strategy sometimes buys at highs, why not just add the "no chasing high" filter? For example, don’t buy if the short-term increase is too large, don’t buy if the momentum is too strong, and eliminate if the increase on the 3rd or 5th day exceeds a certain threshold.
The idea is intuitive, but the backtest results do not support simple filtering.
In momentum strategies, it is often difficult to distinguish between "chasing the high" and "following the main line". A truly big market usually appears strong from the beginning: high ranking, high short-term gains, large trend slope, and high momentum score. If you filter out because it looks overheated, you may be avoiding a few retracements but missing out on a major source of profit.
We tested several types of filtering methods.
For example, don’t buy short if the momentum is too high, don’t buy if the increase on the 3rd is too high, don’t buy if the increase on the 5th is too high, and even use overseas market risk agents to avoid some ETFs. It turns out that these filters can indeed avoid individual high retracements, but they also filter out many main uptrends that really make money. The final performance is often: the return drops significantly, while the maximum drawdown does not improve simultaneously.
This illustrates a problem:
The most important thing about the momentum strategy is not to judge in advance "whether the price will fall if it rises too much", but to identify "whether the strength has expired".
Therefore, I prefer to retain the momentum ranking and let the strategy continue to choose the strongest direction; while using an 8% elimination ranking stop to handle trend disruption.
Its logic is:
First allow the strategy to buy strong ETFs;
If the retracement from the recent high is more than 8% after buying, the trend may have weakened;
At this time, remove it from the ranking and avoid continuing to hold it or repeatedly buying it back.
This method is not to predict the top, but to wait for the market to prove that the trend is weakening before exiting.
If you filter before buying, it is easy to misjudge "strong trend" as "chasing high".
Stop loss after holding is to deal with risks after admitting that the trend has expired.
The backtest results also support this: although the original version occasionally chases losses, the overall return and retracement performance are still better; after adding too much overheating filtering, the offensive ability of the strategy is weakened and the return drops significantly.
So my conclusion is:
Momentum strategies are not afraid of buying strong stocks, but are afraid of continuing to fight after the strong moves end.
8% Elimination of Ranked Stops solves exactly the latter.
It is not a perfect mechanism, and there may be situations where the price will rise again after stopping the loss. But compared to simply "not chasing highs", it is more in line with the essence of the momentum strategy: respect the strong, follow the main line, and decisively exit when the trend breaks.
For momentum strategies, what is really important is not to avoid all losses, but to control the expansion of errors without destroying the main gains in the uptrend.