NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH
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Taming the Factor Zoo: A Test of New Factors

Guanhao Feng, Stefano Giglio, Dacheng Xiu

NBER Working Paper No. 25481
Issued in January 2019
NBER Program(s):Asset Pricing

We propose a model-selection method to systematically evaluate the contribution to asset pricing of any new factor, above and beyond what a high-dimensional set of existing factors explains. Our methodology explicitly accounts for potential model-selection mistakes, unlike the standard approaches that assume perfect variable selection, which rarely occurs in practice and produces a bias due to the omitted variables. We apply our procedure to a set of factors recently discovered in the literature. While most of these new factors are found to be redundant relative to the existing factors, a few — such as profitability — have statistically significant explanatory power beyond the hundreds of factors proposed in the past. In addition, we show that our estimates and their significance are stable, whereas the model selected by simple LASSO is not.

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Document Object Identifier (DOI): 10.3386/w25481

Published: GUANHAO FENG & STEFANO GIGLIO & DACHENG XIU, 2020. "Taming the Factor Zoo: A Test of New Factors," The Journal of Finance, vol 75(3), pages 1327-1370. citation courtesy of

 
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