A Dynamic BW Index of Stock Market Sentiment

42 Pages Posted: 27 Oct 2022 Last revised: 5 Aug 2023

See all articles by Jiangze Bian

Jiangze Bian

University of International Business and Economics (UIBE)

Louis M. D. Burgess

University of Sussex Business School

Xi Chen

University of Sussex Business School

Jun Deng

University of International Business and Economics (UIBE) - School of Banking and Finance

XiaoXiang Zhang

University of Sussex - School of Business, Management and Economics

Date Written: October 18, 2022

Abstract

We explore a dynamic design of market sentiment aggregation, augmenting the seminal Baker and Wurgler (2006) index on the basis that aggregate sentiment must cover a wide range of investors or investment activities; such aggregation must adapt to changes in how different sentiment indicators reflect sentiment; and the aggregation must not be informed by future information. We demonstrate that each basis has a measurable impact. Ignoring these points when constructing models of sentiment can cause empirical effects to be over- or under-estimated and constrain the usability of the modelled sentiment in practical applications. Using a market event analysis, we show that our index is much more closely aligned with the boom and bust periods of the stock market. We also test our index against fourteen anomaly portfolio returns and confirm the classic sentiment-induced mispricing effect on short or hard-to-value legs, while observing increasing sentiment-induced mispricing on the long or easier-to-value legs post-2000.

Keywords: Investor sentiment, sentiment aggregation, PCA, dynamic modelling, equity returns, anomalies

JEL Classification: C43, G12, G41

Suggested Citation

Bian, Jiangze and Burgess, Louis and Chen, Xi and Deng, Jun and Zhang, XiaoXiang, A Dynamic BW Index of Stock Market Sentiment (October 18, 2022). Available at SSRN: https://ssrn.com/abstract=4260275 or http://dx.doi.org/10.2139/ssrn.4260275

Jiangze Bian

University of International Business and Economics (UIBE) ( email )

10, East Huixin Street, Chaoyang District
Beijing, 100029
China

Louis Burgess

University of Sussex Business School ( email )

Jubilee Building
Falmer
Brighton, BN1 9SN
United Kingdom

HOME PAGE: http://profiles.sussex.ac.uk/p401779-louis-burgess

Xi Chen (Contact Author)

University of Sussex Business School ( email )

Jubilee Building
Falmer, Brighton BN1 9SL
United Kingdom

Jun Deng

University of International Business and Economics (UIBE) - School of Banking and Finance ( email )

No.10, Huixindong Street
Chaoyang District
Beijing, 100029
China

XiaoXiang Zhang

University of Sussex - School of Business, Management and Economics ( email )

Falmer, Brighton BN1 9SL
United Kingdom

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