Kauppatieteellinen tiedekunta, 2016
Laskentatoimi ja rahoitus
Master's Degree Programme in Finance
This study aims to test if investor sentiment affects stock returns in the Finnish stock market. Previous research suggests a negative relationship between sentiment and subsequent returns on stocks that are considered speculative. As the behavioral theories suggest that individual investors are more likely to be subjects to sentiment and act on noise, it is presumable that small stocks, commonly held by individual investors, are more prone to shifts in sentiment. I test whether two confidence measures have an impact on stock returns in Finland, and whether the impact differs between speculative stocks and large bond-like stocks. Additionally, I aim to distinguish the irrational part of sentiment from the sentiment measures and test its possible effects on stock returns.
Investor sentiment and its possible effects on stock returns have been widely discussed in the finance literature. Classical finance assumes that majority of investors are rational utility maximizers who make unbiased estimations about stock returns, and that possible misvaluations are quickly corrected by rational arbitrageurs. Thus, stock prices are unpredictable, valued in accordance with their fundamentals, and always fully reflect all available information in markets. Behavioral finance challenges this view by arguing that psychological and sociological have an important role in the way that investors behave in the markets. Previous findings suggest that investor sentiment may play a role in security market under- and overreactions.
I find that contemporaneous changes in both sentiment measures are positively related to stock returns. Especially indices consisting of small stocks are subjects to shifts in sentiment. Changes in both sentiment indices have only weak forecasting power on the returns of the stock indices. Irrational sentiments show significantly negative effects on subsequent stock returns, but the explanatory power of sentiment is relatively trivial. In addition, I find no evidence that the irrational sentiment would primarily affect speculative stocks.
Behavioral finance, Investor sentiment, Overreaction