Unpriced Sector Risk in the Factor Zoo: The Role of Industry Momentum

We decompose the long-short returns of 146 equity factors from the Chen-Zimmermann library into within-sector and between-sector components using Fama-French 12-industry classifications. The between-sector component, which accounts for approximately 19% of total factor return variance, is subsumed by industry momentum exposure (Moskowitz & Grinblatt 1999). After controlling for industry momentum, residual alpha is economically negligible (mean 0.36% p.a.) and statistically insignificant for 143 out of 146 factors after Benjamini-Hochberg correction. Sector-neutral sorting improves the average Sharpe ratio from 0.544 to 0.610 without reducing factor-space dimensionality, as confirmed by PCA on a 42-factor balanced subset. Our results suggest that a large share of the factor zoo’s apparent breadth reflects a common, unpriced sector-tilt component rather than distinct risk premia.

Working Paper (University of Liechtenstein & WU Vienna) — under review at Journal of Financial Economics