3 factor model- portfolio construction

“Our securities analysis is actually based on a three-factor model, which we use to compare the mean expected return of the regional health care index with an individual security’s expected return. Using a risk-free rate of 0.50%, we focus on regional sensitivity to the following three factors, the characteristics of which are shown in Exhibit 2.”

Factor 1: An ROE factor that measures the difference between returns of stocks of firms in the highest quartile of ROE and the returns of firms in the lowest quartile of ROE.

Factor 2: A sector excess return factor that compares local healthcare sector returns with the entire local equity market (MKT).

Factor 3: A capital investment factor that is determined by ranking firms according to their level of capital investment and comparing the returns of the firms in the highest quartile with those in the lowest quartile (INV).

TIA is most likely applying its three-factor model in:

  1. portfolio construction.
  2. return attribution.
  3. risk attribution.

Answer is A. I have no idea what this question is really asking/why the answer is what it is. can someone clarify here pls.

any ideas

The story describes a dude making a 3-factor portfolio… Fact1 is based on Roe, factor2 based on sector excess return, factor 3 based on capital investments… Then it asks what is the purpose of making the model.

I don’t think it matters what the description of the factors are… Could be anything, GDP, P/E, etc… Usually these models are created for portfolio construction… so thats the answer…

Maybe if the question asked about TIA was creating the model to determine active risk and factor risk, then it might be for other purposes such as risks… or if he was comparing asset allocation vs specific allocation then it might be for return attribution,

What are the keywords in this q that hint its portfolio construction exactly?

Maybe if the question asked about TIA was creating the model to determine active risk and factor risk, then it might be for other purposes such as risks… or if he was comparing asset allocation vs specific allocation then it might be for return attribution, - they’re not going to make it so obvious I don’t think.

If you’re building a factor model, what else could it be but portfolio construction? Some questions aren’t meant to be over-thought.