Investor Sentiment and Market Anomalies

Abstract

The traditional view on stock return proposes that stock price changes due to systematic changes in the fundamental value of the firm. But recent papers report that investor sentiment plays an important role in determining prices especially for the small cap stocks. This paper attempts to investigate into the effect of investor sentiment on the price of stocks traded in the Korean stock market. We constructed the sentiment index using principal component of ten sentiment variables. Our findings are as follows; 1) when we employ Fama-French-Carhart four factor (market, size, book/market value, and momentum) model, sentiment effect for the small cap portfolio still appears. 2) after controling market anomaly factors and price effects, returns of low price portfolio are significantly affected by investor sentiment. 3) after controling market anomaly factors and value effects, returns of the portfolio with low book/market value are affected by investor sentiment. These results imply that investor sentiment systematically affects the stock price of Korean firms with small cap, low price, and low book/market value.

Keywords: Investor sentiment; Anomalies; Asset pricing model

JEL Classification: Behavioral Finance