Aspects are the first market drivers of asset-class returns. Within the equity realm, only a limited set of rewarded aspects are backed by academic consensus: Value, Size, Momentum, Low Volatility, High Profitability, and Low Investment. These aspects compensate investors for the extra risk exposure they create in bad times. Hence, factor strategies are appealing to investors because they supply exposure to rewarded risk aspects along with market risk and generally is a source of superior risk-adjusted performance over the long run compared with cap-weighted benchmarks.
The 12 months 2022 was a memorable one for investors, but for not altogether positive reasons. One vivid spot, nevertheless, was the relative outperformance of equity risk aspects versus other popular equity investing styles. While the financial media has attributed recent strong factor performance almost entirely to the Value factor, the resurgence of factor performance was in reality much broader.
Factor Performance’s Comeback Was Broad Based
Here “factor performance” refers back to the performance of long/short factor portfolios that go long a subset of stocks with the strongest positive exposure to a given factor and short a subset of stocks with the strongest negative exposure to the identical factor. Indeed, in the USA, just about all aspects had positive performance in 2022, with a mean return of 6.9%, which is in keeping with their long-term average, as illustrated within the chart below. Momentum, Low Investment, and Value aspects beat their long-term average, though not their best 5% annual rolling returns. The Low Volatility and Size aspects also had positive performance albeit below their long-term average. High Profitability was an outlier, posting the one negative performance. Indeed, the factor fared so poorly, it eclipsed its worst 5% rolling return between 31 December 1974 and 31 December 2021.
US Factor Performance in 2022
| US Aspects | Size | Value | Mom | Low Vol | High Pro | Low Inv | 6-F EW |
| 2022 | 3.5% | 8.4% | 19.9% | 4.3% | -10.1% | 15.4% | 6.9% |
| Avg. Rolling Annual Return |
8.8% | -1.7% | 3.9% | 8.5% | 3.8% | 4.1% | 4.1% |
| Worst 5% Rolling Return |
-22.0% | -20.5% | -20.9% | -17.4% | -9.1% | -9.2% | -3.9% |
| Best 5% Rolling Return |
53.8% | 14.4% | 27.9% | 36.9% | 22.5% | 21.3% | 18.7% |
The ends in the chart above contradict two popular media narratives: that the factor performance story is solely a Value story and that any highly profitable company will outperform in a rising rate environment.
The Factor Story Has Been a Sector Story
Which sectors drove factor performance in 2022? The energy sector played an outsized role. It outperformed its broad cap-weighted counterpart by 84.5% and, because the exhibit below illustrates, helped drive Value, Momentum, and Low Investment factor performance and negatively impacted Low Volatility and High Profitability.
Sector Performance Attribution: US Aspects, 2022
For international equities and global equities, the story is basically consistent with the US market.
Factor Performance through a Macro Lens
While macro aspects usually are not the first drivers of equity performance, they will have significant influence on factor behavior in certain environments. In examining how the macro environment influences factor performance, we use a macro framework developed by Noël Amenc, Mikheil Esakia, Felix Goltz, and Ben Luyten. Our 4 macro variables, shown within the chart below, are short rates (three-month Treasury bills); term spread (10-year minus 1-year Treasuries); default spread (Baa minus Aaa Corporate Bonds); and breakeven inflation (10-year break-even inflation). For every macro variable, we construct a protracted/short macro portfolio composed of stocks with the strongest and weakest sensitivity to macro innovations (surprises). We go long stocks with the very best sensitivity to weekly macro innovations and short stocks with the bottom sensitivity to weekly macro innovations.
In 2022, macro aspects explained much of the variability of some US equity aspects. As an example, term spread, credit spread, and breakeven inflation aspects, respectively, explained 27%, 33.7%, and 45.3% of the Value factor’s variability over the period. Breakeven inflation was one among the strongest macro aspects because it explained a big a part of the return variability of Value, High Profitability, and Momentum. No macro factor had an actual impact on the variability of the Momentum factor.
Percentage of 2022 US Equity Factor Performance Explained by Macro Aspects
| US 2022 R-Squared |
Size | Value | Momentum | Low Volatility |
High Profitability |
Low Investment |
| Short Rate | 6.1% | 0.4% | 0.6% | 46.7% | 8.0% | 1.0% |
| Term Spread | 8.6% | 27.0% | 1.2% | 36.3% | 36.5% | 11.7% |
| Credit Spread | 11.4% | 33.7% | 5.3% | 20.5% | 47.1% | 22.4% |
| Breakeven Inflation |
12.5% | 45.3% | 7.1% | 19.6% | 67.0% | 29.7% |
The outcomes above are a contrast to the longer-term impact of macro aspects on equity aspects, depicted in the next chart. While macro aspects shouldn’t have essentially the most significant impact over the long term, given the transition to a more normalized rate of interest environment, they do exert a more pronounced effect on 2022 factor performance. That is consistent with academic findings. Indeed, factor risk premia short-term variations are linked to the business cycle or macroeconomic conditions.
Percentage of US Equity Factor Longer-Term Performance Explained by Macro Aspects
| US Long-Term R-Squared |
Size | Value | Momentum | Low Volatility |
High Profitability |
Low Investment |
| Short Rate | 0.9% | 5.9% | 6.0% | 29.4% | 1.2% | 14.5% |
| Term Spread | 1.9% | 1.2% | 0.0% | 14.9% | 3.7% | 0.8% |
| Credit Spread | 4.7% | 0.3% | 0.0% | 21.7% | 0.0% | 7.1% |
| Expected Inflation | 0.4% | 3.2% | 0.2% | 4.9% | 10.3% | 0.8% |
How did macro aspects affect equity aspects? The chart below shows Value and Low Investment had positive sensitivity and High Profitability and Low Volatility negative sensitivity to breakeven inflation. Similarly, Value and Low Investment had negative sensitivity and Low Volatility and High Profitability positive sensitivity to the credit spread factor.
2022 US Equity Factor Sensitivities to Macro Aspects
| US 2022 Betas |
Size | Value | Momentum | Low Volatility |
High Profitability |
Low Investment |
| Short Rate | 0.22 | 0.05 | -0.04 | -1.11 | -0.25 | -0.08 |
| Term Spread | 0.16 | 0.33 | 0.07 | -0.62 | -0.35 | 0.23 |
| Credit Spread | -0.33 | -0.65 | -0.34 | 0.83 | 0.71 | -0.57 |
| Breakeven Inflation |
0.25 | 0.54 | 0.28 | -0.58 | -0.60 | 0.46 |
What’s Next for Aspects?
While predicting how aspects will behave in 2023 and beyond is not possible, to this point it looks as if the macroeconomy, especially monetary policy, will still be on the forefront of investors’ minds. How that can influence sectors and aspects is an excellent harder query, and investing based on a particular macroeconomic consequence might not be the most effective plan of action for many investors. Moderately, investing across the set of rewarded aspects could also be more advisable. As empirical evidence shows, the aspects’ average historical premia will likely give you the chance to weather every kind of utmost market conditions and macro developments. The long-term reward of risk aspects won’t fade because they’re compensation for extra risks investors are taking. Hence, multi-factor strategies with well-balanced exposures to the six rewarded aspects should proceed to learn from their long-term reward in the longer term.
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All posts are the opinion of the writer. As such, they shouldn’t be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the writer’s employer.
Image credit: ©Getty Images / baona
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