Kenneth French

Kenneth French is a distinguished American economist and finance professor, most famous for his groundbreaking collaboration with Nobel laureate Eugene Fama. Together, they revolutionized how we think about stock market returns. Before French and Fama came along, the prevailing wisdom, captured in the Capital Asset Pricing Model (CAPM), was that a stock's return was primarily determined by its sensitivity to overall market movements (its beta). However, through meticulous empirical research, French and Fama discovered this wasn't the whole story. They found that two other characteristics—a company's size and its value orientation—were also powerful predictors of long-term returns. This work culminated in the celebrated Fama-French Three-Factor Model, a cornerstone of modern finance that provides a richer, more accurate framework for understanding risk and return. For value investors, French's work provided academic validation for what legends like Benjamin Graham had practiced for decades: buying good, cheap companies pays off.

For a long time, the CAPM was the undisputed king of asset pricing. It was elegant and simple: if you want higher returns, you must take on more market risk. But in the early 1990s, French and Fama published research showing that CAPM's explanatory power was surprisingly weak. They sifted through decades of US stock market data and found that, over the long run, two types of stocks consistently outperformed what their beta would suggest: small-company stocks and “value” stocks. This wasn't just a random anomaly; it was a persistent pattern. Their discovery led to the Fama-French Three-Factor Model, a new formula for explaining stock returns that added two new ingredients to the old CAPM recipe.

The model proposes that a stock's expected return is sensitive to three distinct types of risk, and investors are compensated for bearing them.

• Market Risk (The Original): This is the classic beta from the CAPM. It represents the risk of the overall stock market rising or falling. A stock that is more volatile than the market has a beta greater than 1 and is expected to have a higher return (and vice-versa). This is the part everyone already knew.
• The Size Factor (SMB: Small Minus Big): This factor captures the historical tendency for small-cap stocks to outperform large-cap stocks over time. Why? One theory is that smaller companies are inherently riskier—they are less diversified, have less access to capital, and are more vulnerable to economic downturns. Investors demand a higher return for taking on this extra risk. The model calls this the “size premium.”
• The Value Factor (HML: High Minus Low): This is the one that gets value investors excited. This factor represents the superior returns of value stocks (companies with a high book-to-market ratio) compared to growth stocks (those with a low book-to-market ratio). Companies with high book-to-market ratios are often financially distressed or simply out of favor with the market—they are “cheap.” French and Fama showed that, as a group, these unloved stocks have historically provided higher returns, validating the core principle of value investing. This is the “value premium.”

So, why should an ordinary investor care about a 30-year-old academic model? Because it provides powerful, practical insights.

Have you ever owned a fund that beat the S&P 500 and wondered if the manager was a genius? The Three-Factor Model offers a more sophisticated way to judge. A manager's “alpha,” or true skill, can only be determined after accounting for the fund's exposure to the market, size, and value factors. For example, a fund might beat the market simply because it was heavily invested in small-cap value stocks during a period when those factors performed well. The model helps you distinguish between returns that come from luck (being in the right factors at the right time) and returns that come from skill (a manager's ability to pick winning stocks beyond what the factors would predict).

French's work helped spawn an entire investment strategy known as factor investing (sometimes marketed as “smart beta”). Instead of just buying a market-cap-weighted index fund, investors can now easily buy ETFs and mutual funds designed to intentionally tilt their portfolios toward proven factors like size and value. This allows you to systematically capture these long-term return premiums without having to pick individual stocks. For value investors, it means you can buy a diversified basket of value stocks with a single click.

Never one to rest on their laurels, French and Fama later expanded their model. Recognizing that their original framework still didn't explain all return variations, they introduced the Fama-French Five-Factor Model in 2015. This newer version adds two more factors:

• Profitability (RMW: Robust Minus Weak): More profitable companies tend to generate higher future returns.
• Investment (CMA: Conservative Minus Aggressive): Companies that invest conservatively tend to outperform those that invest aggressively.

This evolution shows that the quest to understand market returns is ongoing, but Kenneth French's work remains a foundational pillar of modern investment theory—and a powerful tool for the intelligent investor.