When Equity Factors Drop Their Shorts

Financial Analysts Journal, forthcoming

42 Pages Posted: 26 Nov 2019 Last revised: 5 Jun 2020

See all articles by David Blitz

David Blitz

Robeco Quantitative Investments

Guido Baltussen

Erasmus University Rotterdam (EUR); Robeco Quantitative Investments

Pim van Vliet

Robeco Quantitative Investments

Date Written: November 27, 2019

Abstract

This paper makes a breakdown of common Fama-French style equity factor portfolios into their long and short legs. We find that factor premiums originate in both legs, but that (i) most added value tends to come from the long legs, (ii) the long legs of factors offer more diversification than the short legs, and (iii) the performance of the shorts is generally subsumed by the longs. These results hold across large and small caps, are robust over time, carry over to international equity markets, and cannot be attributed to differences in tail risk. Portfolio tests suggest that the short legs are of limited value to most investors, while the long legs in small caps are most attractive. We also examine recent claims that the value and low-risk factors are subsumed by the new Fama-French factors, and find that this does not hold for the long legs of these factors. Altogether, our findings show that decomposing canonical factors into their long and short legs is crucial for understanding factor premiums and building efficient factor portfolios.

Keywords: asset pricing, factor premiums, factor investing, short selling, limits to arbitrage, low volatility, size, value, momentum, profitability, investment, quality

JEL Classification: G11, G12, G14

Suggested Citation

Blitz, David and Baltussen, Guido and van Vliet, Pim, When Equity Factors Drop Their Shorts (November 27, 2019). Financial Analysts Journal, forthcoming, Available at SSRN: https://ssrn.com/abstract=3493305 or http://dx.doi.org/10.2139/ssrn.3493305

David Blitz

Robeco Quantitative Investments ( email )

Weena 850
Rotterdam, 3014 DA
Netherlands

Guido Baltussen (Contact Author)

Erasmus University Rotterdam (EUR) ( email )

Burgemeester Oudlaan 50
3000 DR Rotterdam, Zuid-Holland 3062PA
Netherlands

Robeco Quantitative Investments ( email )

Weena 850
Rotterdam, 3011 AG
Netherlands

Pim Van Vliet

Robeco Quantitative Investments ( email )

Rotterdam, 3011 AG
Netherlands

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