Examining the Q-Factor Model in the Chinese Stock Market

Abstract

The aim of this paper is to compare model the q-factor model with the Fama-French three-factor using multiple regression techniques and tests. This is done by constructing the market, size, value, investment, and return-on-equity factors with features tailored for the Chinese stock market using 60-month pre-COVID Chinese stock market data. One specific feature tailored for the Chinese stock market, which is eliminating the bottom 30% size of stocks to avoid shell value contamination of returns, is explained. Differences and similarities between the Chinese and the U.S. stock market that can be observed in the process and the results of the regressions and tests are discussed in the paper. It can be concluded that both models behave well in the chosen period of the Chinese stock market, but the q-factor model works slightly better. Other explanatory explorations are done in the paper as well. Limitations of the models due to practical reasons, e.g., the inconsistent changing dynamic of the Chinese stock market institution, and potential further explorations, e.g., potential shell stock pricing strategies, are also discussed in the paper.