Global Factor Views: Momentum and Quality fare best amid economic resilience and higher-for-longer rates

Key points:

• Macro conditions have been more resilient than expected
• While interest rates appear to be peaking, we expect them to stay high for longer as central banks continue to address stubborn core inflation
• Our highest ranked equity factors on our scorecard are Momentum and Quality while Low volatility and Growth are lowest ranked

US economic growth has been more resilient than expected; while a slowdown threatens the final three months of the year, we no longer expect recession. The Eurozone seems to be enduring a more rapid deceleration but we also believe the region will avoid recession. Meanwhile in China there are signs recent policy support is helping economic activity levels although more stimulus is likely to be needed to avoid recent softness re-emerging.

The Israel-Palestine conflict has increased geopolitical tensions, but so far has only modestly added to headwinds to global growth – though there are risks of escalation and we continue to monitor developments closely.

There are signs that headline inflation has stabilised, and we think it’s likely that interest rates in major economies are at - or near - peak. However resilient growth and stubborn core inflation mean that we expect central banks to keep monetary policy tight well into 2024.

Equity factor outlook

Below, we present our Equity Factor Dashboard. Interest rates do not impact the dashboard at present as they are not expected to change soon. Macro momentum based on the level and rate of change of the Institute of Supply Management New Orders Index is in the ‘early acceleration’ phase of the cycle.

Image

Source: AXA IM, November 2023

At things stand, the highest ranked factors on our dashboard in November are Momentum and Quality while Low volatility and Growth are the lowest ranked.

We set out in detail our outlook for equity market factors below.

Momentum: Positive

Momentum is the highest-ranked factor on our score card in November because typically momentum performs well when macro momentum is in the early acceleration phase of the cycle.  Momentum valuation while modestly elevated in absolute terms is trading in line with its historical average, leaving the overall score on valuation neutral. Technicals (level of crowding and short-term volatility levels) are also supportive. We would note that the factor is at risk in any downside surprise to the macro outlook - for example if either the US or Europe enters recession. 

Quality: Positive

We remain positive on Quality (equities with premium levels of profitability). Quality stocks tend to be rewarded when macro sentiment is in the early acceleration phase of the cycle. Overall, the valuation of Quality is in line with historical average levels and while Quality performance has not historically been sensitive to periods of high valuation we would recommend an active approach to Quality investing and avoid Quality stocks trading on excessively high multiples of earnings.

Value: Positive

The scorecard favours Value compared to Growth. The Value factor only gets a neutral score on our dashboard on Macro and Technical indicators. The reason that Value’s overall score remains positive is because its valuation (price is inexpensive compared to fundamental worth) looks attractive. Value is of course by definition inexpensive in absolute terms, so our assessment is based on current valuation compared to its historical average.

Low volatility: Neutral

Overall Low volatility has a neutral score on our dashboard and is the second lowest ranked factor overall. Low volatility tends to underperform when macro sentiment is in the early-stage acceleration phase of the cycle. Given the recent underperformance of the Low volatility factor, valuations now look attractive, and as a result its score has improved on this measure over the last three months. We would note that any downside surprise to the macro-outlook would likely favour the factor’s inherent defensive attributes.

Growth: Negative

While macro momentum is supportive, Growth its trading on valuations that are expensive compared to historical averages. Furthermore, some crowding is now evident resulting in the factor being bottom ranked on our dashboard in November. A higher for longer interest rate outlook does not favour growth; however, it’s worth noting that the relative ranking of Growth on our dashboard would improve quickly if interest rates fall faster than currently expected.