Relying on factors in crises

Jun 18, 2020

Markets are whipsawing as the spread of COVID-19 cases has triggered unprecedented market volatility. In the initial stage of this bear market however, we have seen factors behave as expected. Defensive factors—especially minimum volatility—have helped reduce risk. Momentum has also done well, showing its ability to outperform the broader market in both trending up and trending down markets.

A generation in investments occurs roughly every 15 years, and at least once a generation we have events that change the course of business forever. Today, COVID-19, coinciding with record decreases in oil prices, have altered our daily lives and may have forever changed business practices. In 2008, the Global Financial Crisis restructured the financial industry and changed the way we invest. Going back further, the early 2000s recession was brought on by the bursting of the dot-com bubble and the unfortunate events of 9/11.

Today’s market declines are harrowing and painful for all market participants. It’s important during these tough times to be patient, stay the course, and focus on your long-term financial objectives. While we can’t always predict the duration of these dislocations, factors can help position your portfolio defensively so that over the long run, you stay invested. Even in the midst of the market tumult, factors have been performing in-line with expectations and defensive factors—especially minimum volatility and quality—have provided some respite.

Factors and the bear market

Focusing our attention to 2020 performance until Thursday, March 12, 2020 – the day we officially entered a bear market (defined as a 20% drawdown in the Dow from the previous high), there are three key themes evidenced by Chart 1 below:

  1. Minimum volatility has been resilient
  2. Value and size have underperformed
  3. Momentum has outperformed the broader market

Chart 1: Excess Returns vs. S&P 500 ETF in 2020 until the start of the bear market

Chart 1: Excess Returns vs. S&P 500 ETF in 2020 until the start of the bear market


Factor Year to Date Excess Return vs. S&P 500
(1/1/20 to 3/13/20)
Momentum +6.75%
Minimum Volatility +5.66%
Quality -0.07%
Value -8.88%
Small Cap (Size) -11.99%

Source: Bloomberg as of 4/27/20. S&P 500 Index ETF represented by the iShares Core S&P 500 Index ETF (XUS), Min Vol represented by the iShares Edge MSCI Min Vol USA Index ETF (XMU), Size represented by the iShares S&P U.S. Small-Cap Index ETF (XSMC), Momentum represented by the iShares Edge MSCI USA Momentum Factor Index ETF (XMTM), Value represented by the iShares Edge MSCI USA Value Factor Index ETF (XVLU), represented by the iShares Edge MSCI USA Quality Factor Index ETF (XQLT). Outperformance verses the S&P 500 index does not indicate positive returns Performance data represents past performance and does not guarantee future results. Investment return and principal value will fluctuate with market conditions and may be lower or higher when you sell your shares. Current performance may differ from the performance shown. For standardized returns and most recent month end performance, click each factor above.

The resilience of minimum volatility

Minimum volatility is a strategy that seeks to reduce risk, and has historically delivered returns in-line with the market over the long run. The defensive nature of minimum volatility is designed to make today’s higher levels of volatility more tolerable.

Going into the bear market, incorporating minimum volatility has helped, it has outperformed the broader market by nearly 6%.

Chart 2: Minimum Volatility Continues to be Resilient

U.S. Min Vol ETF (XMU)’s YTD excess returns vs the S&P 500 ETF (XUS) have moved in lockstep with the spike in volatility (the “VIX” is a real-time market index that measures the implied volatility based near term options for the S&P 500 Index)

Chart 2: Minimum Volatility Continues to be Resilient

Min Vol and S&P 500 ETF Performance during the Down Markets

Rolling 1 Mo. Rolling 3 Mo. Rolling 6 Mo. Rolling 1 Yr.
# of Down Markets 555 353 203 10
# of Down Markets XMU outperformed XUS 376 262 194 10
% of Down Markets XMU outperformed XUS 68% 74% 96% 100%

Source: Bloomberg as of 4/27/20. Returns since the common inception of XMU and XUS 04/10/13 – 3/13/20. A Down Market is defined as XUS having a negative return during the period. Outperformance verses the S&P 500 index does not indicate positive returns The performance quoted represents past performance and does not guarantee future results. Investment return and principal value of an investment will fluctuate so that an investor’s shares, when sold or redeemed, may be worth more or less than the original cost. For the most recent month-end performance, visit

While we expect reduced risk with minimum volatility over the long term and historically it has done just that – minimum volatility can occasionally underperform on down days or even down months relative to the broad market for various reasons. To understand minimum volatility effectiveness in down markets, we observed rolling returns of various lengths. Our research has found that the longer the market drawdown, the higher likelihood for outperformance of minimum volatility. For example, as the table above illustrates, minimum volatility has outperformed in 68% of rolling 1-month drawdowns, but has outperformed in 100% of 1-year market drawdowns compared to the broader market.

The continued underperformance of value and size

Most economic commentators agree we’ve entered an economic downturn. During downturns, value and small stocks tend to underperform. Small stocks tend to be riskier with fewer buffers to survive economic shocks. Value stocks often have large amounts of fixed, physical capital making it more difficult for them to quickly respond to economic changes. (The best times for value and small stocks have tended to be in economic recoveries, not economic downturns).

Just how bad is value? Using Kenneth French’s data on the HML value factor, the most recent drawdown is now the longest downturn for value and it remains the third worst in magnitude.

Value has become really cheap and it’s tempting to shift capital to stocks that are cheap. Yet, it is important to remember that factors, including value, demonstrate cyclicality and as I mentioned above value tends to underperform in economic downturns. In our factor rotation views, we’re not overweight to value yet – while cheap, I believe it is the wrong point in the economic cycle to overweight the factor. Notwithstanding, I acknowledge, that there is risk to being underweight value, especially if fiscal stimulus policies work and the economy quickly recovers.

Chart 3: Value continues to underperform

U.S. historical drawdowns in the Value Premium (HML) have been followed by recoveries, with the most recent drawdown being the longest and 3rd worst in magnitude.

Chart 3: Value continues to underperform

Source: BlackRock; Data from July 1926 - Jan 2020. Start date represents earliest data available for the Value premium (HML). Factor Premiums are for educational purposes only to demonstrate historical context and are not indicative of future results. The performance shown does not represent the performance of an investible product or portfolio and is not reflective of any investment opportunity available on BlackRock’s platform. Past performance does not guarantee future results.

Momentum has outperformed

In entering the bear market in 2020, momentum has outperformed compared to the broader market. Momentum selects securities that have trended up relative to peers – and in this bear market, that’s been more defensive stocks - stocks overlapping with the minimum volatility factor. In fact, during January 2020, we saw momentum’s composition shift to more defensive-oriented securities which led the market in 2019. The previous time this happened—when momentum shifted towards low volatility—was in 2016. Remember that due to the nature of the factor, momentum has consistently higher turnover than other factors, so today’s defensive positioning could change at the next rebalance depending on market movements.

Factors can help your defense

There’s lots of uncertainty in the market and fear has become the primary driver of market pricing. But while markets are roiling, factors have performed as we would expect during a sharp selloff entering a bear market.

Despite the panic in markets, investors’ best course of action is to stay calm, evaluate opportunities to reduce risk in their portfolio, and consider implementing more defensive strategies like minimum volatility as a way to stay invested in markets and to help mitigate the sharp swings in volatility.

Andrew Ang, PhD
Andrew Ang, PhD
Head of Factor Investing Strategies