Understanding Factor Value

Fisher College of Business Working Paper No. 2023-03-24

Charles A. Dice Center Working Paper No. 2023-24

59 Pages Posted: 2 Oct 2023 Last revised: 6 Jun 2024

Date Written: April 9, 2024

Abstract

The value spread of factors fluctuates over time because of changes in market equity or book value but predicts factor returns only through the component driven by market equity changes (the dme spread). Exploiting cross-sectional mispricing, the dme spread captures 90 years of sentiment and subsumes the predictability in existing sentiment measure. Factor predictability concentrates on factors most predictable by sentiment and factors more subject to asymmetric limits of arbitrage. A factor value strategy exploiting the predictability outperforms and explains cross-sectional value factors. The value premium is not an independent factor but summarizes time-varying factor returns conditional on sentiment.

Keywords: factor timing, predictability, risk premium, value value premium, reversal

JEL Classification: F0, F3, G0, G1

Suggested Citation

Zhang, Shaojun, Understanding Factor Value (April 9, 2024). Fisher College of Business Working Paper No. 2023-03-24, Charles A. Dice Center Working Paper No. 2023-24, Available at SSRN: https://ssrn.com/abstract=4588171 or http://dx.doi.org/10.2139/ssrn.4588171

Shaojun Zhang (Contact Author)

The Ohio State University

2100 Neil Avenue
Columbus, OH 43210-1144
United States

HOME PAGE: http://sites.google.com/view/zhangshaojun

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