Pricing Without Mispricing

ABSTRACT

We introduce a test of whether a given pricing model can be the model that would price assets if the market were efficient. The latter model is the benchmark for gauging inefficiency in the actual market. Our test asks whether a model assigns zero alpha to a strategy that uses only decade‐old information, which even an inefficient market should price correctly. Persistence in the strategy's factor exposures gives the test power. The CAPM passes our test, but prominent multifactor models do not.