Financial Feature Engineering – How to Research Alpha Factors

Introduction

• The portion of an asset’s return that is not explained by exposure to this benchmark is called alpha, and hence the signals that aim to produce such uncorrelated returns are also called alpha factor.

Alpha factors in practice- from data to signals

• Alpha factors are transformations of raw data that aim to predict asset price movements. They are designed to capture risks that drive asset returns.
• procedure of alpha design:

• The economic theory behind factors can be rational so that factors have high returns over the long run to compensate for their low returns during bad times.
• To avoid false discoveries and ensure a factor delivers consistent results, it should have a meaningful economic intuition based on the various established factor categories like momentum, value, volatility, or quality and their rationales

Building on decades of factor research

• Momemtum and sentiment
  • Momentum investing follows the adage: the trend is your friend or let your winners run.
  • The premise of strategies using this factor is that asset prices exhibit a trend, reflected in positive serial correlation.