Investor Sentiment Aligned: A Powerful Predictor of Stock Returns

67 Pages Posted: 19 Aug 2013 Last revised: 10 Jul 2017

See all articles by Dashan Huang

Dashan Huang

Singapore Management University - Lee Kong Chian School of Business

Fuwei Jiang

Central University of Finance and Economics (CUFE)

Jun Tu

Singapore Management University - Lee Kong Chian School of Business

Guofu Zhou

Washington University in St. Louis - John M. Olin Business School; China Academy of Financial Research (CAFR)

Date Written: October 13, 2014

Abstract

We propose a new investor sentiment index that is aligned with the purpose of predicting the aggregate stock market. By eliminating a common noise component in sentiment proxies, the new index has much greater predictive power than existing sentiment indices both in- and out-of-sample, and the predictability becomes both statistically and economically significant. In addition, it outperforms well recognized macroeconomic variables and can also predict cross-sectional stock returns sorted by industry, size, value, and momentum. The driving force of the predictive power appears stemming from investors’ biased belief about future cash flows.

Keywords: Investor Sentiment, Asset Pricing, Return Predictability, Cash Flow, Discount Rate

JEL Classification: C53, G11, G12, G17

Suggested Citation

Huang, Dashan and Jiang, Fuwei and Tu, Jun and Zhou, Guofu, Investor Sentiment Aligned: A Powerful Predictor of Stock Returns (October 13, 2014). Available at SSRN: https://ssrn.com/abstract=2311618 or http://dx.doi.org/10.2139/ssrn.2311618

Dashan Huang

Singapore Management University - Lee Kong Chian School of Business ( email )

50 Stamford Road
Singapore, 178899
Singapore

HOME PAGE: http://dashanhuang.weebly.com/

Fuwei Jiang (Contact Author)

Central University of Finance and Economics (CUFE) ( email )

39 South College Road
Haidian District
Beijing, Beijing 100081
China

Jun Tu

Singapore Management University - Lee Kong Chian School of Business ( email )

50 Stamford Road
#04-01
Singapore, 178899
Singapore

Guofu Zhou

Washington University in St. Louis - John M. Olin Business School ( email )

Washington University
Campus Box 1133
St. Louis, MO 63130-4899
United States
314-935-6384 (Phone)
314-658-6359 (Fax)

HOME PAGE: http://apps.olin.wustl.edu/faculty/zhou/

China Academy of Financial Research (CAFR)

Shanghai Advanced Institute of Finance
Shanghai P.R.China, 200030
China

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