Comparative Analysis of CAPM and the Fama-French Three-Factor Model: Explanatory Power and Practical Applications in Asset Pricing

Simu Huang ()
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Simu Huang: Monash University, Monash Business School

A chapter in Proceedings of the 2025 International Conference on Financial Risk and Investment Management (ICFRIM 2025), 2025, pp 542-550 from Springer

Abstract: Abstract This study aims to address the limitations of the Capital Asset Pricing Model (CAPM) in explaining cross-sectional variations in asset returns and to evaluate the performance of the Fama-French Three-Factor Model (FFM) as an alternative. The research is significant as it provides a more comprehensive understanding of asset pricing and highlights the role of additional factors—size and value—in influencing returns, offering valuable insights for financial theory and investment practices. To achieve this, the study uses regression analysis to compare the explanatory power of CAPM and FFM across nine globally recognized companies representing diverse industries. Daily stock prices, market data, and financial metrics spanning from 2012 to 2024 were sourced from reputable databases, ensuring data reliability and robustness. The results reveal that the FFM outperforms CAPM in certain cases, particularly for growth-oriented companies like Meta and traditional manufacturing firms like Caterpillar, where the size (SMB) and value (HML) factors demonstrate significant explanatory power. However, for firms in the financial services and entertainment sectors, such as BlackRock and Disney, and high-volatility companies like Tesla, both models exhibit weak performance, suggesting the need for additional explanatory factors. This study underscores the importance of multifactor models in asset pricing and highlights opportunities for future research to incorporate industry-specific or sentiment-driven factors to further enhance explanatory power.

Keywords: Asset Pricing; Financial Theory; CAPM; Fama-French Three-Factor Model; Model Comparison (search for similar items in EconPapers)
Date: 2025
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DOI: 10.2991/978-94-6463-748-9_61

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