The Low-Minus-High Portfolio and the Factor Zoo

Regardless of whether the CAPM is rejected for valid reasons or by mistake, a single long-short portfolio will always explain, together with the market, 100% of the cross- sectional variation in returns. Yet, this portfolio, which we coin the “Low-Minus-High (LMH) portfolio,” need not proxy for fundamental risk. We show theoretically how factors based on valuation ratios (e.g, book-to-market), or on investment rates, can be proxies for the LMH portfolio. More generally, the empiricist can uncover an infinity of proxies for the LMH portfolio, thus unleashing the factor zoo.

Keywords: CAPM, factor zoo, anomalies

JEL Classification: G12

Suggested Citation: Suggested Citation

Andrei, Daniel and Cujean, Julien and Fournier, Mathieu, The Low-Minus-High Portfolio and the Factor Zoo (March 31, 2019). Proceedings of Paris December 2019 Finance Meeting EUROFIDAI - ESSEC, Available at SSRN: https://ssrn.com/abstract=3367898 or http://dx.doi.org/10.2139/ssrn.3367898