Growth and Momentum continue 2018 factor leadership

Q3 performance shows that different factors outperform in different market environments

Nick Kalivas

Time to read: 5 min

Factor returns displayed a wide dispersion in the third quarter, with a 12.2% spread between the best-performing factor index (Russell Midcap Pure Growth) and the worst-performing factor index (S&P 600 Pure Value). Year to date, the spread is a hefty 31.0%.1 What does this mean? Investors who judge the equity market based on traditional benchmarks may not realize the market opportunities that are present “underneath the hood” via factors.


How equal weighting eliminates concentration risk

Facebook illustrates how a big company’s big loss can dominate traditional benchmarks

Nick KalivasTime to read: 2 min

There are 26 constituents in the S&P 500 Communication Services Select Sector Index, but only one was on the minds of investors in late July — Facebook. A disappointing earnings release on July 25 led to a 21.35% drop in the stock’s price over the next five days.1 Because of Facebook’s outsized presence in the index, that drop had a huge effect on overall returns. The index fell 7.02% over the same time frame — and 66.11% of that loss was due to Facebook. 1 Past performance isn’t a guarantee of future results, but whenever one stock has such an outsized influence on an index, that’s known as concentration risk. It’s a common risk that’s embedded into many indexes, but there are strategies built specifically to eliminate it.


Worried about emerging markets? Consider the low volatility factor.

History shows that when EM stocks sell off, US low vol stocks generally outperform

Nick KalivasTime to read: 2 min

Emerging markets (EM) have been turbulent throughout 2018 due to US-China trade tensions, the deleveraging of the Chinese economy, Brazilian political uncertainty, Middle Eastern conflict and Russian sanctions. The recent plunge in the Turkish lira has only added to investors’ jitters. As EM stocks fall, many investors may be looking to US stocks as a hedge against risk. Based on past periods of EM turbulence, I believe US low volatility stocks in particular warrant a closer look.


The Q2 factor winner? Small cap.

As global risks grow, factor diversification may help investors stay prepared

Nick KalivasTime to read: 4 min

With fears of a trade war looming over global large-cap stocks, the small-cap factor emerged as the clear winner of the second quarter. Specifically, small-cap low volatility/high dividend was the best-performing factor, followed by the small-cap versions of value, growth, equal weight and momentum (see the chart below for the indexes that represent these factors).


Can small-cap outperformance continue?

Several drivers suggest that small caps may be able to continue their recent dominance over large caps

Nick KalivasTime to read: 3 min

Small caps have materially outperformed large caps in 2018, with the S&P SmallCap 600 Index outpacing the S&P 500 Index 7.80% to 2.58% between Dec. 29, 2017, and May 25, 2018.1 Below, I highlight the drivers of small-cap returns this year, and why I believe the trend could continue.

Tax cuts have benefited small caps. In the three years ending December 2017, the companies in the S&P SmallCap 600 Index had an average effective tax rate 4.3% higher than the S&P 500 Index.1 Investors looking for stocks that may experience improved profitability due to US tax reform have turned to the small-cap sector.

Trade tensions may favor small caps. 2018 has been a year of trade tensions, but