The alpha model needs raw material: factors. This note covers the canon — the historical arc from CAPM through Fama–French to the modern quant framework, then the three dominant practitioner families (value, quality, momentum) with their construction formulas, worked numbers and behavioural rationales, and finally smart beta: what happens commercially when known factors stop counting as alpha. The recurring theme is why each factor should exist at all — every factor needs either a risk story (you are being paid for bearing something) or a behavioural story (someone else is making a systematic mistake), and the stories determine how the factor behaves in a portfolio.
Learning objectives. By the end of this note you should be able to:
- write the CAPM, FF3 and FF5 equations and explain each factor's construction;
- construct value scores (equity and enterprise versions) and explain the leverage distortion that enterprise multiples fix;
- define quality's two drivers (competitiveness, agency problems) with RNOA as the workhorse metric;
- construct 12−1 price momentum and give the behavioural underpinnings;
- standardise and combine factors into an expected-return equation;
- explain smart beta, fundamental indexation, the minimum-volatility anomaly, and the cyclicality/crowding risks.
In this lesson
- 4.1 From CAPM to multifactor models
- 4.2 Value factors
- 4.3 Quality factors
- 4.4 Momentum factors
- 4.5 Standardisation and combination
- 4.6 Smart beta
The full lesson, with worked examples and exercise solutions, is for members.
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