Daily Academic Alpha: Fresh Evidence on the Fama French 5-Factor Model

Daily Academic Alpha: Fresh Evidence on the Fama French 5-Factor Model

July 15, 2015 $iwd, $mtum, $vlue, Yahoo Tickers

Last updated on January 18th, 2017 at 02:54 pm

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The past few weeks we’ve highlighted a set of research papers that go back and forth on the validity of the Fama and French “5-factor model.”

A sampling of the research:

We summarize the debate/controversy in a couple of recent posts:

Now we have a new paper from Back, Kapadia, and Ostdiek that investigates the merits of both the FF 5-Factor and the KXZ 4-Factor.

Alphas of Betas: Testing Characteristics-Based Factor Models

We test the recent Fama-French five-factor model and Hou-Xue-Zhang four-factor model using test assets from Fama-MacBeth regressions, which are bets on particular characteristics or covariances that are neutral with respect to others. Monte Carlo evidence shows that the tests are unbiased, despite errors in variables. Test assets that are bets on characteristics (covariances) have positive (negative) alphas. In particular, neither model can explain returns related to investment rates, the Fama-French model cannot explain momentum, and the Hou-Xue-Zhang model cannot explain value. The rejections are economically significant.

Sure sounds like nobody can explain active  value investing and momentum investing excess returns…


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About the Author

Wesley R. Gray, Ph.D.

After serving as a Captain in the United States Marine Corps, Dr. Gray received a PhD, and was a finance professor at Drexel University. Dr. Gray’s interest in entrepreneurship and behavioral finance led him to found Alpha Architect. Dr. Gray has published three books: EMBEDDED: A Marine Corps Adviser Inside the Iraqi Army, QUANTITATIVE VALUE: A Practitioner’s Guide to Automating Intelligent Investment and Eliminating Behavioral Errors, and DIY FINANCIAL ADVISOR: A Simple Solution to Build and Protect Your Wealth. His numerous published works has been highlighted on CBNC, CNN, NPR, Motley Fool, WSJ Market Watch, CFA Institute, Institutional Investor, and CBS News. Dr. Gray earned an MBA and a PhD in finance from the University of Chicago and graduated magna cum laude with a BS from The Wharton School of the University of Pennsylvania.