I am getting more and more excited by the following crowding analysis from MSCI.
https://www.msci.com/research-and-insights/insights-gallery/which-factors-may-be-crowded
From what I was able to research, high beta has been crowded basically since the beginning of 2021 and it did not took too long and ARKK underperformed to put it lightly.
If everybody is long a factor (let’s say high beta) then it is clear to me that this factor cannot outperform much longer (who buys if “everybody” is long?).
Combine that with the relative expensiveness of a factor (expensive to its own history and / or to the market) which is also an indication of weak future factor performance.
So, we have the big four of factor timing (based on my knowledge today):
Big three in Macro (rate of change of GDP, Inflation and Policy)
Is the factor crowded?
Valuation of the factor (expensiveness, cheapness to its history and or to the market)
Factor Momentum (works very well on size, value and profitability!)
If you add this up, we are in a perfect spot for small cap value momentum for the next 6 - 8 weaks:
—> Big Three in Macro: ROC Inflation still up (and with the recent spikes in Oil and commodities that should last at least 6-8 Weeks https://www.clevelandfed.org/our-research/indicators-and-data/inflation-nowcasting.aspx) and the FED most likely to raise (bad for growth, good for value).
—> Momentum: undercrowded right now!
—> Low size: undercrowded and cheap right now!
—> Value: undercrowded and cheap right now, historically to itself and relative to the market, in these terms we have not been cheaper since 2000. What happened after 2000? A six-year bull market in small cap value momentum!
No wonder small cap value momentum is doing great (at least that is the way I rationalize it ;-)).
The above performance of small cap value momentum (and all my systems look similar to the above!) is 100% out of sample. And this performance puzzles me since weeks!
Am I only feeding my bias here, which is clearly the love of small caps? Could be!
Nevertheless, when I add up the above (Inflation, low crowding in value and momentum and the cheapness of the value factor) AND the current behavior of my small cap value momentum systems (= strong factor momentum!) my best take is that this is a strong trend. And there is no reason to jump the ship right now.
I get into a lot of discussions that we are in a bear market right now.
Well, that is only true for certain factors (big caps, growth, high beta).
But this is not the case for small cap value momentum at all (printing all-time highs by the day). This is also not the case for commodities and bigger cap value stocks.
Therefore, in my definition this is not a bear market like 2020 or 2008. A bear market for me is when correlations = 1, e.g., all stocks no matter the factor tank and VIX spikes well above 40 or even 50.
So far that has not been the case.
We are in a factor picker market where you can be long strong (strong factor momentum, undercrowded and relative cheap) factors and short weak factors.
Still, I do hedge my portfolio here because I fear spillover effects of the very weak economic outlook (ultimately, we go from inflation to deflation), geopolitics and from other factors.
Have good time!
Hi Andreas, do you have any sense of how much of your small-cap performance is tied to the oil business? Most of the good ones I have had have been oil-related, I wish more industries were performing as well.
Well done sir!