Investor Psychology and Misvaluation Comovement

53 Pages Posted: 26 Mar 2009

See all articles by Eric C. Chang

Eric C. Chang

University of Hong Kong - School of Business

Yan Luo

Fudan University

Date Written: March 16, 2009


In this paper we measure stock misvaluation following Rhodes-Kropf et al. (2005) and examine its relation to stock returns. We find that the misvaluation measure has incremental explanatory power for future returns over size, book-to-market ratio, momentum, and the share issuance effect. Based on the misvaluation measure, we form a misvaluation factor by longing undervalued stocks and shorting overvalued stocks, and find that stock covariances with this factor predict future returns. The properties of stocks with different degrees of misvaluation are investigated, and the evidence is consistent with the argument that stock misvaluation is caused by investor overreaction. Lastly, we show that the negative relation between idiosyncratic risk and return documented by Ang et al. (2006, 2009) is conditional on stock misvaluation.

Keywords: Misvaluation Comovement, Investor Overreaction

JEL Classification: G12, G14

Suggested Citation

Chang, Eric Chieh C. and Luo, Yan, Investor Psychology and Misvaluation Comovement (March 16, 2009). Available at SSRN: or

Eric Chieh C. Chang (Contact Author)

University of Hong Kong - School of Business ( email )

Meng Wah Complex
Pokfulam Road
Hong Kong

Yan Luo

Fudan University ( email )

No. 670, Guoshun Road
No.670 Guoshun Road
Shanghai, 200433

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