Small-Investor Sentiment, Differences of Opinion and Stock Overvaluation

Abstract

Recent research shows that small trade imbalances are negatively associated with future stock returns. I find that this negative association only exists when stocks have initially been mispriced. In addition, mispricing occurs before the sentimental trading of small investors. In stocks with high opinion divergence, buying pressure from small investors deters the realization of negative information. Therefore, trades from retail investors do not directly cause mispricing, but they prevent price discovery and facilitate mispricing.

Keywords: Small-trade imbalances, Mispricing, Noise trader risk

JEL Classification: G11, G14