Factor investing is an investment strategy that involves picking stocks based on specific characteristics, or “factors.” The three most common factors are value, growth, and momentum.
Value stocks are those that trade at a lower price than their intrinsic value. Growth stocks are those that are expected to grow at a faster rate than the market. Momentum stocks are those that have been outperforming the market.
There are a number of different ways to measure these factors, but the most common method is to use a stock’s price-to-earnings (P/E) ratio for value, its price-to-earnings growth (PEG) ratio for growth, and its relative strength index (RSI) for momentum.
There are a number of different theories as to why these factors work, but the most common one is that they are all indicators of investor sentiment. Value stocks are usually out of favor with investors, so they tend to be undervalued. Growth stocks are usually in favor with investors, so they tend to be overvalued. Momentum stocks are usually in favor with investors, so they tend to continue outperforming the market.
There is a lot of academic research that supports factor investing, and there are a number of different ways to implement it. However, it’s important to remember that no investment strategy is guaranteed to work all the time, and factor investing is no exception.
