DigestingAnomalies:An Investment Approach

[16:13 2/2/2015 ]Page: 650 650 705 Digesting Anomalies: An InvestmentApproachKewei HouThe Ohio State University and China Academy of Financial ResearchChen XueUniversity of CincinnatiLu ZhangThe Ohio State University and National Bureau of Economic ResearchAn empiricalq-factor model consisting of the market factor, a size factor, an investmentfactor, and a profitability factor largely summarizes the cross section of average stockreturns. A comprehensive examination of nearly 80 anomalies reveals that about one-halfof the anomalies are insignificant in the broad cross section. More importantly, with a fewexceptions, theq-factor model s performance is at least comparable to, and in many casesbetter than that of the Fama-French (1993) 3-factor model and the Carhart (1997) 4-factormodel in capturing the remaining significant anomalies. (JELG12, G14)In a highly influential article, Fama and French (1996) show that, except formomentum, their 3-factor model, which consists of the market factor, a factorbased on market equity (small-minus-big, SMB), and a factor based on book-to-market equity (high-minus-low, HML), summarizes the cross section ofaverage stock returns as of the mid-1990s.

[16:13 2/2/2015 RFS-hhu068.tex] Page: 650 650–705 DigestingAnomalies:An Investment Approach Kewei Hou The Ohio State University and ChinaAcademy of Financial Research

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