Persistence of investor sentiment and market mispricing

Xiao Han, Nikolaos Sakkas, Jo Danbolt and Arman Eshraghi

The Financial Review, 2022, vol. 57, issue 3, 617-640

Abstract: We investigate changes in US market sentiment using structural break analysis over a period of five decades. We show that investor sentiment was trending and nonstationary from 1965 to 2001, a period associated with numerous crashes. Since 2001, sentiment has been substantially more mean reverting, implying the diminished effect of noise investors and their associated mispricing. We illustrate how these changes in sentiment persistence affect equity anomalies and assess the predictive power of sentiment on short‐run returns when regime changes are considered. Our findings suggest that the presence of sentiment‐driven investors and their market impact is significantly time‐variant.

Date: 2022
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