The value factor is an attribute of stocks that are chosen by factor investors. The value factor is based on a belief that stocks that are inexpensive relative to some measure of fundamental value outperform those that are pricier.
The value factor has a long history in financial research starting in 1930s when academics developed a methodology for identifying stocks trading less than their actual value, and later linked the performance of stocks to their price-to-earnings (P/E) ratios. However, the best-known work on the value factor was carried out by Eugene Fama and Kenneth French in their 1992 paper, The cross-section of expected stock returns, which concluded that low price-to-book ratio was the most predictive definition of value.
To this day, different definitions of value are favoured by institutional investors, including cashflows, prices relative to earnings, dividend yield, and other company fundamentals.
Like the quality premium, the cause of the value premium is also disputed. While it is obvious that cheaply valued assets deliver higher returns, it is difficult to understand why the premium persists in an efficient market, where stocks that are undervalued should be identified quickly attracting buyers.
One explanation for this persistence is that cheap companies tend to exhibit less stable earnings and higher debt levels for which investors demand compensation in the form of higher returns. Another explanation is that investors tend to shun stocks that have underperformed in the recent past.
See also Factor investing.
FAQs
The value factor is an attribute of stocks that are chosen by factor investors. The value factor is based on a belief that stocks that are inexpensive relative to some measure of fundamental value outperform those that are pricier.
What is a value factor? ›
The value factor is a strategy that helps investors identify undervalued stocks with the potential for long-term capital appreciation. It relies on components such as price-to-earnings ratio, price-to-book ratio, dividend yield, price-to-sales ratio, and free cash flow yield.
What is value risk factor? ›
Definition. The value risk factor is defined as a long exposure to assets that are cheap and a short exposure to those that are expensive, according to a valuation measure.
How do you define value at risk? ›
Value at risk (VaR) is a measure of the potential loss that an asset, portfolio, or firm might experience over a given period of time. Standard deviation, on the other hand, measures how much returns vary over time.
What is the definition of a risk factor? ›
risk factor. noun. : something that increases the possibility that something bad will happen. cigarette smoking is a risk factor for lung cancer.
How to calculate value factor? ›
How Do I Calculate the PVIF? Add 1 and the discount interest rate, then multiply the sum by the number of years or another time period. Divide the future sum to be received by that multiplication result, and you have the present value interest factor (PVIF).
What is the value at risk factor? ›
Elements of Value at Risk (VaR)
The VaR statistic has three components: a period, a confidence level, and a loss amount, or loss percentage, and can address these concerns: What can I expect to lose in dollars with a 95% or 99% level of confidence next month?
How do you calculate risk factor? ›
Typically, project risk scores are calculated by multiplying probability and impact though other factors, such as weighting may be also be part of calculation. For qualitative risk assessment, risk scores are normally calculated using factors based on ranges in probability and impact.
What is an example of a value risk? ›
Example of Value at Risk:
At the 95 per cent confidence level, a financial institution's one-day VaR might be $2.5 million. This translates to a 5% possibility that a loss of more than $2.5 million will occur on any given day.
What is a risk factor in finance? ›
A risk factor is an underlying characteristic or exposure that can be used to explain the return profile of an asset class.
It's calculated by multiplying the probability of a risk occurring by the financial impact of that risk. Here's the formula to determine risk:Risk = probability x impactTypically, project managers and business leaders use this formula to quantify risk when the outcome of their activities is uncertain.
What is value at risk also known as? ›
This is also known as the expected shortfall, average value at risk, tail VaR, mean excess loss, or mean shortfall. CVaR is an extension of VaR. CVaR helps to calculate the average of the losses that occur beyond the Value at Risk point in a distribution. The smaller the CVaR, the better.
What is the formula for risk? ›
Risk is the combination of the probability of an event and its consequence. In general, this can be explained as: Risk = Likelihood × Impact. In particular, IT risk is the business risk associated with the use, ownership, operation, involvement, influence and adoption of IT within an enterprise.
What are the 4 main risk factors? ›
In general, risk factors can be categorised into the following groups:
- Behavioural.
- Physiological.
- Demographic.
- Environmental.
- Genetic.
Risk factor examples
- Negative attitudes, values or beliefs.
- Low self-esteem.
- Drug, alcohol or solvent abuse.
- Poverty.
- Children of parents in conflict with the law.
- Homelessness.
- Presence of neighbourhood crime.
- Early and repeated anti-social behaviour.
Background risk factors, such as age, sex, level of education and genetic composition; Behavioural risk factors, such as tobacco use, unhealthy diet and physical inactivity; and. Intermediate risk factors, such as elevated blood lipids, diabetes, high blood pressure and overweight/obesity.
What is an example of a present value factor? ›
The PV Factor is equal to 1 ÷ (1 +i)^n where i is the rate (e.g. interest rate or discount rate) and n is the number of periods. So for example at a 12% discount rate, $1 USD received five years from now is equal to 1 ÷ (1 + 12%)^5 or $0.5674 USD today.
What is a factor example? ›
factor, in mathematics, a number or algebraic expression that divides another number or expression evenly—i.e., with no remainder. For example, 3 and 6 are factors of 12 because 12 ÷ 3 = 4 exactly and 12 ÷ 6 = 2 exactly. The other factors of 12 are 1, 2, 4, and 12.
How do you find the value of a factor? ›
Thus, to find all the factors of a number, find all the pairs of numbers that, when multiplied, give the given number as a product. As a result, the factors of 8 are 1, 2, 4, 8. The factors of 18 are 1, 2, 3, 6, 9, and 18. We can find the factors of a number by dividing the number by all possible divisors.
What is the value of 4 factor? ›
The factors of 4 are 1, 2 and 4 because all these numbers divide the number 4 evenly.
