Home / News / A spoonful of factors helps inflation go down

A spoonful of factors helps inflation go down

Portfolios built along factor lines may be better-placed to withstand the grinding effects of high inflation, a recent study probing almost 150 years of market returns has found.

The analysis by Dutch investment giant, Robeco, shows bonds and equities in general have delivered positive nominal and real returns during periods of modest inflation and deflation recorded since 1875.
However, the study concludes that factor tilts deliver reliable premiums above standard asset class-based allocations through all periods regardless of the inflation backdrop.

“Splitting up inflationary regimes into sub-regimes reveals that stagflationary episodes, inflationary bear markets or rising inflationary times, and to a lesser extent deflationary bear markets, are bad times for investors,” the paper says.

“During these ‘bad times’, equity, bond, and global factor premiums are consistent and attractive, as they are across inflationary regimes. As such factors help to alleviate the pain during bad times, offsetting some of the negative impact of high inflation.”

Guido Baltussen, Robeco head of factor investing, says periods of ‘stagflation’ – or low growth coupled with high inflation – have proven particularly harsh for vanilla bond and share portfolios.

“During these stagflationary intervals, bonds delivered a nominal return of 5.1 per cent, but a real return of -4.4 per cent due to the high levels of inflation. Overall, a generic multi-asset portfolio tended to struggle in this scenario as it produced nominal and real returns of -2.2 per cent and -11.7 per cent, respectively,” Baltussen says.

“The picture was different when we looked at factor premiums. The multi-factor equity and multi-factor bond portfolios charted in positive territory with gains of 5.4 per cent and 4.7 per cent, respectively. Moreover, all equity and bond factor premiums performed well during stagflation, with the exception of the bond momentum factor which endured losses during these episodes.”

But tilting bond and share portfolios to factors such as value, momentum or quality can only take the edge off losses in high inflationary times rather than offer full protection.

“These [factor] premiums provide diversification, but at the same time are also not a perfect hedge against inflation, as their returns do not substantially increase during the worst times,” the paper says. “Finally, our results suggest factor premiums in equities, bonds, and across asset classes are not a compensation for bearing inflationary risks.”

Authored by Baltussen along with Robeco colleagues, Laurens Swinkels and Pim van Vliet, the ‘Investing in deflation, inflation, and stagflation regimes’ used a range of data sources to map out inflationary periods dating back to 1875.

“We choose to exclude these hyperinflation periods as they are very rare and special episodes that come with large measurement noise and risks for investors that they typically choose to exclude,” the report says.

Given few investors today have experienced either high inflation or deflation, the study says the historical record provides valuable insights into “how risk premiums and investment strategies behave across inflationary regimes like periods of high inflation, deflation, or stagflation”.

Print Article

‘Profound changes that won’t happen overnight’: Funding climate transition of the real economy

In the murky world of data – particularly murky with ESG and climate information – blending quantitative techniques and fundamental research is shedding new light for investors.

Greg Bright | 28th Sep 2022 | More
Funds want an ‘evolution, not a revolution’ in alternatives

An uncertain market outlook beggars a fundamental rethink of investment strategy. But institutional investors are sticking with what worked in the past, even when they know it won’t work in the future.

Lachlan Maddock | 28th Sep 2022 | More
Local market back in the green

After three consecutive losing days, the Australian sharemarket turned northward again on Tuesday, led by the resources stocks. After being scorched on Monday, the ASX’s coal and lithium stocks rallied on Tuesday as global markets stabilised, as did energy prices, despite rising recession risks. The S&P/ASX 200 Index added 26.8 points, or 0.4 per cent,…

Drew Meredith | 28th Sep 2022 | More
‘In good markets and bad’, Super Fierce finds top 15 funds
Lachlan Maddock | 15th Jul 2022 | More
Top 10 balanced funds in tough year
Greg Bright | 15th Jul 2022 | More
Funds rewarded by active management in a tough year
Lachlan Maddock | 20th Jul 2022 | More