Regarding Fama and French’s new working paper, I have long told clients that Professors Fama and French were likely wrong when they assumed that the value premium was due to the inherent riskiness of value businesses (http://amarginofsafety.com/ff-and-lsv/). As Fama and French concluded in their 1992 paper:

“The systematic patterns in fundamentals give us some hope that size and book-to-market equity (value) proxy for risk factors in returns, related to relative earnings prospects, that are rationally priced in expected returns.”

They could only go on hope. Two years later, Lakonishok, Shleifer, and Vishny (LSV) demonstrated that the value premium remained even when returns were measured in various periods (and types) of distress, which led LSV to conclude that the value premium was not due to greater risk. Now, it seems Fama and French are finally coming around to the same result, if not the same conclusion.

As every econometrician knows, when the independent variables in a regression are correlated, the results will be unreliable. Factors that were previously significant may be subsumed by additional independent variables that act as proxies for that previously significant factor. In their working paper, Fama and French added two factors to their 1992 three factor model, factors for profitability and capital investment. Specifically they found that profitability and investment are sufficient to account for the performance that was previously attributable to the value factor; the value factor is no longer needed. They concluded in their working paper:

“Finally, HML (the value factor) seems to be a redundant factor in the sense that its high average return is fully captured by its exposures to RM - RF (the equity premium), SMB (the small cap factor), and especially RMW (profitability) and CMA (investment).”

That is, it is fully captured "especially" by firms demonstrating high profitability and low investment that you would expect to find in low risk businesses.

As Morningstar’s Sam Lee wrote, “An efficient-market theorist would (have to) argue that profitable firms and firms with low capital intensity must therefore be riskier in unique ways in order to have commanded return premiums.”

Sometimes an obvious statement of contradiction like Lee's is enough to make an argument crumble. So, why won’t Fama and French finally draw the conclusion that the value premium is not attributable to risk?