11 – M4 L2A 11 Types Of Risk Models V1

Coming up, we’ll cover major flavors of the risk model. We’ll start with a risk model that uses a single risk factor, the market return. This is the capital asset pricing model which you’ve learned earlier. Then, we’ll build on this to learn about the Fama French three factor model. The Fama French model which was proposed by Eugene Fama and Kenneth French is the basis for the movement towards the multifactor model of assets. In fact, many papers that study or propose potential alpha factors, can trace some of their methodology to the Fama-French three factor model. The cap m and Fama French three factor model are both examples of time series risk models. We’ll then introduce a cross-sectional risk model and see how they’re different from time series risk models. In a later lesson, we’ll also introduce a model of Leighton risk factors using a kind of unsupervised machine learning principle component analysis. In quanta investing, you may come across all three types of risk models, times series, cross sectional or PCA. So, it helps to understand each one. You will use the PCA risk model in this next project and we’ll use one of the time series models in term two of this program.

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