Which of the following is a drawback of factor model benchmarks?

Factor model benchmarks can indeed have ambiguities that might not be clearly defined at the outset. One of the key characteristics of factor models is that they are constructed based on various factors that aim to capture the risks and returns associated with a particular investment strategy or asset class. However, the selection of these factors, their definitions, and their relevance can sometimes be subjective or open to interpretation.

In practice, if the factors used in the model are not firmly specified before implementation, this may lead to difficulties in measuring performance or comparing different investment strategies over time. Stakeholders may find it challenging to understand precisely how the benchmark is constructed and may question its appropriateness or relevance as a standard for performance comparison.

This ambiguity can lead to difficulty in assessing whether a portfolio is outperforming or underperforming relative to the benchmark, as the factors influencing returns may not be explicitly identified or agreed upon. Thus, the lack of clear specification of the factors involved can be a significant drawback in utilizing factor model benchmarks effectively.