Abstract
Background: The Fama and French five-factor model (FF5M) is one of the stock valuation model that is on the cutting edge of finance research. Results from the empirical tests from various stock markets were the FFM5 has been tested since its launch in 2014 are mixed. Hence, it is important that empirical evidence testing the FF5M in comparison with lower models such as the Fama and French three-factor model (FF3M) and the Capital Asset Pricing Model (CAPM) is documented. Aim: To identify a research gap that still remains to be filled relating to stock valuation models in the field of finance. Conclusion: The results of the empirical evidence have revealed that although the FF5M is a great milestone in stock pricing models, it has also left room for better models to be further developed from it in future.
Highlights
Stock valuation models are very important to investors and shareholders as they are one of the tools that enable them value their own shares so that they can make decisions on stock trading
The Capital Asset Pricing Model (CAPM) builds on the model of portfolio selection developed by Harry Markowitz; it is considered one of the fundamental contributions to the exercise of finance, and it has long been a guide for academics and practitioners on how to find the relationship between average returns and risk
The CAPM postulates that the market portfolio is mean–variance efficient in the sense of Markowitz, and the model assumes that the equilibrium rates of return on all risky assets are a linear function of their covariance with the market proxy
Summary
Stock valuation models are very important to investors and shareholders as they are one of the tools that enable them value their own shares so that they can make decisions on stock trading. The major weakness of the Markowitz portfolio theory was that it required large data inputs to find the variance and covariance of returns on security in the portfolio (Sharpe 1964) This led to the development of the Capital Asset Pricing Model (CAPM) by Sharpe (1964), Lintner (1965) and Mossin (1966). The FF3M could not explain the momentum effect presented by Jegadeesh and Titman (1993) This led to the formation of the four-factor asset pricing model developed by Carhart (1997). It is important that empirical evidence testing the FF5M in comparison with lower models such as the Fama and French three-factor model (FF3M) and the Capital Asset Pricing Model (CAPM) is documented
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