Equity Factors & Inflation

Should Factor Investors Prefer Inflation or Deflation?

April 2018. Reading Time: 10 Minutes. Author: Nicolas Rabener.


  • Factor performance is impacted by inflation and deflation
  • An inflationary environment is more attractive for most factors
  • The change in inflation has been most meaningful for the Size factor


We recently published a research note on the relationship between factor returns and real GDP growth (Equity Factors & GDP Growth), which highlighted that some factors exhibit pro-cyclical while others have anti-cyclical characteristics. The Value and Size factors showed strong returns when economic growth was high while the Quality and Growth factors performed best when real GDP declined. In another research note (Factors & Interest Rates) we observed that there are no consistent relationships between factor performance and interest rates. Given that we covered real GDP and interest rates, we are only missing inflation in terms of analysing the most important macroeconomic variables and their impact on factor performance. This short research note evaluates the relationship between equity factor returns and inflation in the US.


We initially focus on the Value, Size and Momentum factors from Fama-French, which are constructed as dollar-neutral long-short portfolios based on the top and bottom 10% of the US stock market. The data includes companies with small market capitalisations, excludes transaction costs and is available since 1926. We expand the factor set by the Low Volatility, Quality, Growth and Dividend Yield factors based on our own data, which is available since 2000. These are created via long-short beta-neutral portfolios and only include stocks with a market capitalisation of larger than $1 billion. Portfolios are rebalanced monthly and each transaction occurs costs of 10 basis points.

Inflation data is sourced from the Federal Reserve Bank of St. Louis and available since 1947. The chart below shows the number of months with positive and negative inflation as well as accelerating and decelerating inflation, which is defined as the last month divided by the average inflation of the previous 12 months