Investor Sentiment, Disagreement, and the Breadth--Return Relationship

Ling Cen (), Hai Lu () and Liyan Yang
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Ling Cen: Rotman School of Management, University of Toronto, Toronto, Ontario M5S 3E6, Canada; and Department of Management, University of Toronto at Scarborough, Toronto, Ontario M1C 1A4 Canada
Hai Lu: Rotman School of Management, University of Toronto, Toronto, Ontario M5S 3E6, Canada

Management Science, 2013, vol. 59, issue 5, 1076-1091

Abstract: We study the cross-sectional breadth--return relation by assuming that investors subject to market sentiment hold a biased belief in the aggregate. With a dynamic multiasset model, we predict that the breadth--return relationship can be either positive or negative depending on the relative strength of two offsetting forces---disagreement and sentiment. We find evidence consistent with our predictions. The breadth--return relationship is positive when the sentiment effect is small. However, the relationship becomes negative when (i) the time-series variation of market-wide sentiment is high and (ii) the cross-sectional dispersion of firm-specific exposure to market-wide sentiment variation is large. Our unified framework reconciles a few seemingly inconsistent empirical studies in this literature and explains puzzling cross-sectional return patterns observed during the Internet bubble and the subprime crisis periods. This paper was accepted by Brad Barber, finance.

Keywords: investor sentiment; disagreement; breadth of ownership; cross-sectional stock returns (search for similar items in EconPapers)
Date: 2013
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Citations: View citations in EconPapers (41)

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