Factor Investing and U.S. Recessions: How Have Key Equity Factors Performed on a Historical Basis?
- In the five months prior to U.S. recessions dating to the 1920s, the equity Momentum factor was the top performer, with an annualized cumulative excess market return of +6.7%, on average.
- The Equity Investment, Quality, and Profitability factors have historically performed the best during U.S. recessions.
- In the 12 months following U.S. recessions since the 1920s, the equity Size and Value factors have performed the best.
In the 96 years spanning 1927 to 2022, there were 16 recessions totaling 199 months (16.6 years), with an average loss of -2.4% annualized. The stock market often anticipates recessions—but how soon before a recession? Our analysis shows that the market peaks on average five months before a recession. Below we examine how different equity factors have performed during past recessions—and what happened before and after those events. Note that factor returns are calculated as long-short returns.
Factor performance prior to recessions: Momentum comes in first
During the five months prior to recessions (Figure 1), annualized cumulative excess market return versus risk-free rate was -1.2% on average. Momentum (MOM) was the strongest performer (+6.7% on average with 80% hit rate), and Size (SMB, small minus big), Value (HML, high minus low), and Investment (CMA, conservative minus aggressive), were the weakest performers (-1.1%, 0.3%, and 0.6% on average, respectively) during the same period.
Figure 1: Cumulative performance before recessions (5 months prior)
Source: Kenneth French website, AQR