Min Vol During High Vol

In our year-end Quanta Byte Humble New Year Resolutions, we highlighted min vol as a key theme—and the first few months have delivered. While equity and bond market swings have eased somewhat in the aftermath of Donald Trump’s tariff announcement on April 2nd, the landscape remains fragile. Moody’s downgrade of the U.S. credit rating from AAA to AA1 is a clear reminder: the path to higher equity markets will remain uneven.

A good moment, in our view, to re-iterate our conviction into one of our preferred strategies for 2025—Minimum Volatility¹. In the following sections, we first outline the most likely macro scenario going forward. We do so by using our proprietary business cycle model Wave. We then assess which equity factors we expect to do well in the current phase. Our analysis is focused on developed market equities.

Wave is in Slowdown

Emerging markets remain in expansion, while developed markets show signs of a slowdown² (Figure 1). The U.S. tariff announcement in early April triggered a sharp market reaction and prompted major banks to cut their growth forecasts.

Markets stabilized after the U.S. announced a 90-day suspension of tariffs beyond the basic 10%. Bilateral deals—such as with China—lifted growth forecasts. Still, the effective U.S. tariff rate remains about 10 percentage points above early-year levels—a clear headwind for both trading partners and the U.S. economy.

With the Wave base case pointing to a continued slowdown, we focus on which equity factors tend to perform in the regime we’re in, and in the one where we’ll be. But first, let’s briefly review key findings from academic research on equity factors.

Few factors matter

Since the 1980s, academics have introduced hundreds of equity factors. Yet only a few have consistently proven effective through rigorous testing. Our analysis focuses on the most reliable: Value, Quality, Momentum, Minimum Volatility, High Dividend and Growth. These factors have shown resilience over time and remain central to many successful investment strategies today.

While factor research has a long history, the study of how factor performance evolves over time is relatively new. The central question: Does the state of the economy influence how factors perform? Most research relies on traditional business cycle indicators, such as the OECD leading indicator or Purchasing Managers’ Indices (PMIs). Recent work by Kwon (2022)³ and others shows that adjusting factor allocation based on economic regimes can outperform static strategies. Polk et al. (2020)⁴, for instance, use the OECD indicator to define regimes. Their findings: Quality and Minimum Volatility tend to outperform both the equity market and other factors during a slowdown.

These empirical findings motivate our factor analysis. Given that Wave has a proven track record of anticipating adverse market regimes—such as contraction—earlier than traditional business cycle models⁵, we will base our factor analysis on our proprietary model. For comparability, we use MSCI’s factor definitions as the foundation for our analysis.

The value of min vol

Our business cycle analysis measures how developed market equity factor strategies perform versus their benchmark⁶, depending on the cycle state⁷. Figure 2 shows relative out- or underperformance by factor, cycle state, and across the full cycle.

We start with unconditional performance—the average out- or underperformance of each factor since 1995. Our analysis highlights three clear winners: Quality (+3%) and Momentum (+2.4%). Minimum Volatility and Dividend strategies matched the benchmark, while Value and Growth slightly underperformed. Quality and Momentum are the only factors with double-digit returns—11.6% and 10.6%, clearly beating the MSCI World’s 8.6%.

Breaking down performance by cycle phase reveals clear patterns. First, Quality consistently outperforms the benchmark in every phase. Momentum lags slightly—only during contractions. Second, in slowdowns, Quality, Momentum, Minimum Volatility and High Dividend strategies tend to outperform. Third, Value and High Dividend underperform in contractions. But High Dividend rebounds strongly during the recovery phase.

At first glance, the data might suggest doubling down on Quality and Momentum. But that would miss the point of Minimum Volatility. Its strength lies not in outperforming during bull markets, but in offering steadier returns through uncertainty. As Figure 3 shows, Minimum Volatility stands out for its lower risk and more resilient performance.

Min Vol has kept his word in 2025

Our business cycle model, Wave, signals a slowdown, making minimum volatility strategies attractive—even for risk-tolerant investors. Figure 2 shows minimum volatility outperformed the MSCI World during slowdowns. Though quality and momentum delivered higher returns, minimum volatility’s lower volatility and better risk-adjusted metrics motivate our preference.

As Figure 3 shows, the annualized standard deviation for min vol stocks is 11%, compared to 14%-17% for other strategies, including the benchmark. These results suggest that certain strategies cater to different investor profiles, with min vol being particularly attractive for risk-averse investors. This is especially true as some portfolio hedges, such as long-duration bonds, have failed to protect portfolios this year amid tariff announcements and Europe's shift away from fiscal austerity, which has triggered higher inflation expectations and rising yields.

Minimum Volatility isn’t just about managing risk—it has also outperformed the benchmark and other factors year-to-date. As Figure 4 shows, these strategies have outperformed so far in 2025. The trend began with the U.S. tariff announcement in early April—and since then, minimum volatility has continued to lead other strategies. With U.S.–European tariff negotiations in focus, investors watch market risks closely. Minimum volatility may continue to outperform in the weeks ahead.

How we navigate?

Market volatility has eased, but uncertainty remains high⁸. The U.S. tariffs confirmed so far imply an average import duty 10 to 12 percentage points above where it stood at the start of the year. This is a historic increase, taking tariff levels back to those last seen in the 1920s—and is likely to show up in economic data over the coming months.

Geopolitical risks add another layer of unpredictability. Regarding the war in Ukraine possible outcomes range from escalating tensions to a longer-lasting ceasefire or peace. For investors, this means staying alert to sudden shifts in sentiment.

In this environment, we believe Minimum Volatility strategies will remain a valuable tool to navigate potential market turbulence⁹. Even the rise in U.S. Treasury yields left few clear safe havens. Two of our preferred hedges—the Japanese yen¹⁰ and gold¹¹—have performed solidly in recent weeks. We expect them to continue offering protection, especially if weaker economic data starts coming in. Much will then depend on the Fed’s reaction¹². In its May policy statement, the Fed signaled it is in no rush to ease, as the full inflationary and economic impact of tariffs remains uncertain.

Two unknowns—the economic data and the Fed’s response—could weigh on markets, especially if the U.S. and global economy weaken and policy support falls short. In this environment, we have recently adopted a more neutral stance on riskier assets such as equities—while maintaining our bias toward Minimum Volatility strategies. At the same time, we are reducing our long-held overweight in credit, which has become increasingly correlated with equities during the latest sell-off.¹³