TY - JOUR T1 - Latent Factors in Equity Returns: How Many Are There and What Are They? JF - The Journal of Portfolio Management SP - 226 LP - 263 DO - 10.3905/jpm.2021.1.296 VL - 48 IS - 2 AU - Ross French Y1 - 2021/12/31 UR - https://pm-research.com/content/48/2/226.abstract N2 - The optimal method for determining the number of latent factors in a dataset is an unresolved problem in explanatory factor analysis. This article uses several of the most commonly cited methods to determine the number of relevant factors in developed equity markets, finding that there are typically between 10 and 20. The results of these tests are evaluated against the optimal number of factors for estimating realized correlations. The author concludes that the information criteria and random matrix theory approaches provide the best results. Notwithstanding these results, they find that filtered correlation matrixes provide only a marginal advantage over the sample correlation matrix when estimating correlations. The study then examines economic interpretations of the latent factors, which adds context to the evaluation of the number. Finally, the author compares the efficacy of the modeled correlations in an important real-world application: minimum variance portfolio construction. ER -