Final Answer:
The Fama-French three-factor model includes the market factor (Mkt-Rf), book-to-market factor (SMB), and size factor (HML). Thus, the correct option is a. Market factor, book-to-market factor, and size factor.
Step-by-step explanation:
The Fama-French three-factor model includes the market factor, book-to-market factor, and size factor. This model was developed by Eugene Fama and Kenneth French to better explain stock returns beyond what the traditional Capital Asset Pricing Model (CAPM) offers. The three factors in the model are as follows:
1. Market Factor (Mkt-Rf):This represents the excess return of the market over the risk-free rate and captures the systematic risk associated with the overall market.
2.Book-to-Market Factor (SMB): This factor accounts for the difference in returns between small-cap and large-cap stocks based on their book-to-market ratios. It measures the effect of a company's book value relative to its market value.
3. Size Factor (HML):The size factor reflects the difference in returns between stocks with high and low market capitalizations. It emphasizes the historical outperformance of small-cap stocks over large-cap stocks.
In summary, the Fama-French three-factor model extends the CAPM by incorporating additional factors that consider the size and book-to-market characteristics of stocks. The three factors aim to provide a more comprehensive understanding of the factors influencing stock returns and help investors make more informed investment decisions.
Thus, the correct option is a. Market factor, book-to-market factor, and size factor.