October 2011
Beginner
576 pages
16h 32m
English
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CHAPTER 12
Cross-Sectional Factor-Based Models and Trading Strategies
Joseph A. Cerniglia
Visiting Researcher, Courant Institute of Mathematical Sciences, New York University
Petter N. Kolm, Ph.D.
Director of the Mathematics in Finance Masters Program and Clinical Associate Professor, Courant Institute of Mathematical Sciences, New York University
Frank J. Fabozzi, Ph.D., CFA, CPA
Professor of Finance, EDHEC Business School
In the previous chapter, we demonstrated how factors are constructed from company characteristics and market data. Subsequently, we discussed the analysis of the statistical properties of the factors. In this chapter, we extend the analysis to include multiple factors with the purpose of developing a dynamic multifactor trading strategy that incorporates a number of common institutional constraints such as turnover, transaction costs, sector, and tracking error. For this purpose, we use a combination of growth, value, quality, and momentum factors. Our universe of stocks is the Russell 1000 from December 1989 to December 2008, and we construct our factors by using the Compustat Point-In-Time and IBES databases. A complete list of the factors and data sets used in this chapter is provided in the appendix.
We begin by reviewing several approaches for the evaluation of return premiums and risk characteristics to factors, including portfolio sorts, factor models, factor portfolios, and information coefficients. We then turn to techniques that are used to combine ...
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