New Factors Wanted: Evidence from a Simple Specification Test

70 Pages Posted: 22 Mar 2018 Last revised: 17 Oct 2019

See all articles by Ai He

Ai He

University of South Carolina - Department of Finance

Dashan Huang

Singapore Management University - Lee Kong Chian School of Business

Guofu Zhou

Washington University in St. Louis - John M. Olin Business School; China Academy of Financial Research (CAFR)

Date Written: October 17, 2019

Abstract

We find a pricing-error reversal pattern for well-known asset pricing models: the CAPM, Fama-French, Hou-Xue-Zhang, Stambaugh-Yuan, and Daniel-Hirshleifer-Sun. A trading strategy that buys low pricing-error stocks and sells high pricing-error ones earns significant average and risk-adjusted returns, and it performs similarly across {\it all} the models. This is also true for statistical models with factors extracted from 105 anomalies. The pricing-error reversal is unexplained by investor sentiment, limits-to-arbitrage, prospect theory, and expectation extrapolation, suggesting that new factors are needed to better understand the cross section of stock returns.

Keywords: Pricing error, Characteristic, Lottery, Expectation extrapolation, Limits-to-arbitrage

JEL Classification: C53, G11, G12, G17

Suggested Citation

He, Ai and Huang, Dashan and Zhou, Guofu, New Factors Wanted: Evidence from a Simple Specification Test (October 17, 2019). Available at SSRN: https://ssrn.com/abstract=3143752 or http://dx.doi.org/10.2139/ssrn.3143752

Ai He

University of South Carolina - Department of Finance ( email )

1014 Greene Street
Columbia, SC 29208
United States

HOME PAGE: http://www.aihefinance.com/

Dashan Huang

Singapore Management University - Lee Kong Chian School of Business ( email )

50 Stamford Road
Singapore, 178899
Singapore

HOME PAGE: http://dashanhuang.weebly.com/

Guofu Zhou (Contact Author)

Washington University in St. Louis - John M. Olin Business School ( email )

Washington University
Campus Box 1133
St. Louis, MO 63130-4899
United States
314-935-6384 (Phone)
314-658-6359 (Fax)

HOME PAGE: http://apps.olin.wustl.edu/faculty/zhou/

China Academy of Financial Research (CAFR)

Shanghai Advanced Institute of Finance
Shanghai P.R.China, 200030
China

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