When False Factors Are Exposed

The world of finance and asset pricing used to be fairly simple. At first, there was just the single-factor capital asset pricing model, with market risk (beta) as the sole factor to explain the differences in returns of diversified portfolios. Over time, the working model evolved into a still relatively simple four-factor model, adding value, size and momentum. Each of these four factors carried large premiums.

However, as John Cochrane put it, today we have a literal factor zoo, with more than 600 factors having been identified in the literature (roughly 300 of which have been identified in top journal articles and highly regarded working papers).

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