A Three-Factor Equity Model Using ROIC, Price-to-Sales, and Price-to-Book

Summary

This introductory multi-factor stock selection method combines one profitability measure, return on invested capital, with two valuation measures, price-to-sales and price-to-book. The stated goal is to rank stocks by factors associated with returns and build a portfolio intended to outperform an index. The article also sketches a market-neutral framing: take the selected portfolio long and use index futures or short selling to express the opposite side, depending on the expected relative performance.

Before combining factors, it describes handling outliers through a median-based method and standardizing values across different units using z-scores. Missing factor values receive a score of zero, and standardized factor scores are summed with equal weights, accounting for each factor’s direction. The example uses the CSI 300 universe and monthly rebalancing. Although it says the factors were backtested, it provides no results, detailed formulas for outlier treatment, transaction costs, or evidence that the factor relationships persist.

Key ideas

• The model combines ROIC, price-to-sales, and price-to-book as stock selection factors.
• It proposes median-based outlier treatment and z-score standardization before combining factor values.
• Missing values receive a zero score, and standardized factors are summed equally with direction handled appropriately.
• The example uses the CSI 300 universe and rebalances monthly.
• The article gives no backtest results or transaction-cost analysis.

Tags

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.