The previous post explored the cyclic behaviour of the Fama French HML factor. I proposed further work to link HML to the economy. In fact, a literature search discovers that Liew and Vassilou (1999), document this effect:

The table contains past 12 month return of HML versus **next year’s** GDP growth.

The difference between ‘Bad States’ (GDP growth in bottom quartile) and other states is large in several countries. For example, in the US, average HML growth of 2.81% led to Bad States compared to about 10% ahead of other states.

This agrees with the time series plot in the previous post showing that extreme growth (low HML) typically leads to economic recessions.

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Further to the last post I ran some ’4 year cycle’ analysis on pseudo factors.

Pseudo factors can be constructed by subtracting various Fama French portfolios:

‘High minus Up’ (Value minus Momentum) shows momentum outperforms value about 0.5% per month in the second half of the cycle, accelerating towards the end.

‘Up minus Market’ shows momentum outperforms the market at least 1% per month throughout the cycle. Note that exits from recessions favor value due to the ‘momentum crash’ phenomena documented by Daniel and Moskowitz.