Hotter Than Expected Inflation Keeps Beta & Macro on the Front Burner

Over the past several months, we've introduced Extreme Movers, the latest tool in our arsenal to understand what is driving markets from week to week. We also debuted an international version of the Extreme Movers portfolio to help investors compare fluctuating alpha opportunities and factor-driven dynamics between the US and the world. The Extreme Movers portfolios allow us to apply hindsight to the prior week's momentum to understand the following key questions better:

1. Was the preceding week an alpha-driven or factor-driven week?
2. What are the factor characteristics of the stocks that drove the market?

The Extreme Movers portfolios are weekly-rebalanced, market-neutral portfolios that consist of the top decile of stocks from the Russell 1000 and the MSCI ACWI ex-US, respectively, based on performance on the long side and the bottom decile on the short side. You can find additional information on the construction of the Extreme Movers portfolio in the May 22 edition of Factor Spotlight.

US Market Summary and Extreme Movers Metrics

US Market: 09/09/22 - 09/15/2022

• US Markets had a tumultuous week, with optimism paving the way early on, only to be reversed in the latter half of the week as the macro environment the market back down. The three headline indices had almost identical returns, with the S&P 500, Nasdaq, and Dow Jones all posting -2.6% return for the five days ending September 15.
• This week's big story in the US markets was the unexpected CPI report showing that prices increased 8.3% in August (vs. 8.1% in July), contrary to earlier estimates of slowing inflation. The markets had a significant adverse reaction to this news on Tuesday.

Extreme Movers Portfolio Performance

Please note that the portfolio's return will always be positive by constructing a portfolio that is long the top movers and short the bottom movers in an index. That said, there are several areas we want to observe around weekly performance:

1. Is the weekly performance below or above the recent median weekly performance? Above the recent median means that the Extreme Movers portfolios had much higher dispersion than a typical week, most likely driven by higher factor volatility.
2. Is the weekly alpha contribution below or above the recent median alpha contribution? Above the recent median demonstrates that the significant market moves were more alpha-driven than in a typical week. Below the median, the market moves were more factor-driven than in a typical week.

• This week, return dispersion crept back towards the YTD median, with the total US Extreme Movers portfolio returning 16.5%.
• Alpha contribution dropped below the YTD median, allowing style and industry factors to drive returns this week.
• Long positions in Oil & Gas heavily concentrated industry returns. High-beta, low-quality, anti-value stocks drove style returns.

• Despite a relatively lackluster return of 14.6% for the International Extreme Movers portfolio, the alpha contribution within the portfolio hit a YTD high point.
• Alpha contributed almost 80% of the portfolio return, with style, country, and currency contributing below-average levels of return.
• A long position in Banks heavily drove industry returns, while a long position in Japan and short positions in China & Hong Kong drove country returns.

Extreme Movers Portfolio Exposure

Looking at the Extreme Movers from an exposure lens helps us decompose the individual styles and sectors associated with the portfolio's factor-driven performance and better understand broader patterns such as risk-on / risk-off or sector rotation.

• Despite a setback last week, Energy stocks - driven by Oil & Gas - are back in favor within the US portfolio. Investors appear to be posturing towards expected fuel shortages and subsequent tailwinds for oil prices.
• Software & IT Services' names boosted the Info-Tech allocation this week. Info-Tech was a crucial driver in the high beta exposure for the portfolio.
• On the negative side, Industrials & Materials showed heavy short allocations this week. Both sectors contributed to the anti-value and anti-quality exposures within the portfolio.

• The US Extreme Movers portfolio showed significant style changes this week. The portfolio moved back in favor of high-beta, high-growth, macro-sensitive names, opposite last week. Value and profitability took further swings out of favor.
• This beta and macro-driven shift comes mainly from optimistic moves early in the week preceding the US inflation report. However, the latter half of the week dampened the shift after the inflation report signaled a high likelihood of continued aggressive rate hikes.
• Both highly crowded longs and shorts swung back into favor this week, likely posing challenges for short sellers.

• Financials increased in allocation this week, driven by Banks. This shift carried the portfolio's positive beta, value, and interest rate beta exposures this week.
• This week, materials remained one of the top sectors, mainly concentrated in Metals & Mining.
• On the short side, Industrials, Consumer Staples, and Utilities were the top three short sectors. Industrials, in particular, contributed heavily to the tailwinds for heavily crowded shorts.

• This week, high-beta, high-value, macro-sensitive stocks carried the International Extreme Movers portfolio. On the beta side, this is a significant shift from last week, though similar to the US, continued reports of record inflation dampened the move.
• Relative to the US counterpart, the International portfolio showed quite a different story on the growth vs. value front, with high value and low growth stocks moving in favor. Interestingly, the portfolio is short quality this week.
• Macro-sensitive assets, along with highly crowded short stocks, took a front seat in the portfolio.

Regards,
Alyx