This paper expands the traditional Fama French three factor framework by adding profitability and investment to explain average stock returns. The five factor model improves explanatory power, but its difficulty pricing certain small stocks and the apparent redundancy of the value factor raise interesting questions.
A Five-Factor Asset Pricing Model
Kenneth French, Eugene Fama
Research
52 Pages
Key Takeaways
Broader Factor Model: The model uses 5 factors, adding profitability and investment to the market, size, and value factors of the earlier 3 factor framework.
Long Historical Test: The analysis covers 606 months from July 1963 through December 2013, providing roughly 50 years of U.S. stock data.
Small Stocks Challenge: One small stock portfolio with low value and profitability produced an average excess return of just 0.03% per month.
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