What do multi-factor models of asset pricing express in terms of systematic risk?

• A. Only one risk factor
• B. Multiple economic indicators
• C. Multiple factors
• D. Individual stock performances

Answer: (C)

Multi-factor models of asset pricing express systematic risk in terms of multiple factors. These models account for various economic, fundamental, or statistical factors that can affect asset returns, allowing for a more comprehensive understanding of the drivers of risk and return in financial markets. By incorporating multiple factors, such as macroeconomic variables, market indices, and other relevant influences, these models provide a framework that captures the complexities of asset return behavior better than a single-factor model.

The advantage of using multiple factors is that it can reflect the diverse sources of risk that impact investments. This results in a richer analysis of how securities relate to one another and to the overall economy, improving the ability to predict future returns. Each factor in a multi-factor model typically represents certain systematic risks that are common across multiple assets, thus enhancing the model's effectiveness in asset pricing and portfolio management.

In contrast, focusing on only one risk factor or individual stock performances would limit the model's capacity to account for the broader economic environment and interconnectedness of various market influences. While multiple economic indicators can be related to the factors, they do not constitute the multi-factor approach as it emphasizes the significance of combining multiple sources of risk systematically.