Currently reading Gappy's "Advanced Portfolio Management" and wanted to get a conversation going around how others think about factor models.
My simplistic thought: People find correlations between an asset and other baskets of assets and categorize that basket as a 'factor.' Then all performance of the asset is then benchmarked to those factors. Is this really just an extension of the idea around benchmarking an assets performance to the SP500, for example? Instead of just the SP500, make it 1) SP500, 2) small minus big market cap returns, and 3) returns of high book to market ratio minus returns of low.
Now obviously people have continually added more factors to the mix to explain returns. If I am a PM and discover that the market tends to rally on Tuesday's in October from 9-10 am when the low is under 30 degrees in NYC and I tell an academic about it will I start to see papers talking about the 9-10 AM Cold NYC October Tuesday factor?
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