Idiosyncratic volatility, investor sentiment, and returns of the GCC stock markets

Standard finance theory suggests that idiosyncratic volatility should not influence stock returns. In reality, if investors are unable to achieve efficient diversification, such risk may affect stock returns. The purpose of the study is to examine the presence of idiosyncratic volatility and sentiment in the stock markets of the GCC (Gulf Cooperation Council) countries. Monthly idiosyncratic volatility is estimated using the Fama-French three-factor model. A unified sentiment proxy for each market is created by employing Principal Component Analysis (PCA). Then, Ordinary Least Squares (OLS) regressions are applied. F-statistics, t-statistics, and adjusted R2s are used to test the presence of idiosyncratic volatility and sentiment in the GCC markets.Findings show that the effect of sentiment on stock returns is observed across all the GCC markets. Investor sentiment can weakly explain the effect of idiosyncratic volatility on stock returns. In general, investors do not price expected idiosyncratic volatility, and only the unexpected part of it affects stock returns. Overall, the first implication for investors is that they must consider market sentiment to predict the cross-section of stock prices and should not completely ignore the influence of idiosyncratic volatility on stocks. Secondly, the implication for policymakers is that they should motivate companies to go public so that investors have more options to diversify their portfolios across different sectors.

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Sentiment and Stock Returns: A Case for Conventional and Islamic equities in Pakistan

Business & Economic Review ◽

10.22547/ber/12.3.1 ◽

2020 ◽

Vol 12 (3) ◽

pp. 1-22

Author(s):

Sana Tauseef

Keyword(s):

Stock Returns ◽

Stock Exchange ◽

Investor Sentiment ◽

Principal Component ◽

Relative Strength ◽

Firm Level ◽

Market Sentiment ◽

Level Data ◽

Money Flow ◽

Auto Regression

The study constructs market sentiment index over the period from August 2009 to June 2019 and examines the causality between market sentiment and returns for conventional and Islamic stocks in Pakistan. Using the firm-level data for all stocks listed on Pakistan Stock Exchange, market sentiment index is constructed as the first principal component of six variables: advances-to-decline, premium on dividends, price-to-earnings, relative strength, money flow and turnover rate. We employ the Vector auto-regression model to examine the two-way causal relationship between investor sentiment and aggregate stock return. Our results show that market sentiment has strong predictive power for subsequent conventional stock returns. Sentiment based trading actions of the investors cause persistence in conventional stock returns for one month; however, as these stocks become overpriced, the price movement reverses in two months’ time. In contrast, we do not find any significant association between market sentiment and Islamic stock returns. Our findings are suggestive of different dynamics and investor behavior in Islamic financial markets of Pakistan and along with the existing literature documenting Islamic stocks performance to be at least as good as the conventional stock can be a comfort to the Muslim Investors and may serve as the catalyst to stimulate the growth of Islamic equities.

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A quantile regression approach to evaluate the relative impact of global and local factors on the MENA stock markets

International Journal of Emerging Markets ◽

10.1108/ijoem-03-2020-0251 ◽

2021 ◽

Vol ahead-of-print (ahead-of-print) ◽

Author(s):

Slah Bahloul ◽

Nawel Ben Amor

Keyword(s):

Stock Market ◽

Quantile Regression ◽

Stock Returns ◽

Stock Markets ◽

Financial Integration ◽

Ordinary Least Squares ◽

Market Returns ◽

Stock Market Returns ◽

Content Type ◽

The Impact

PurposeThis paper investigates the relative importance of local macroeconomic and global factors in the explanation of twelve MENA (Middle East and North Africa) stock market returns across the different quantiles in order to determine their degree of international financial integration.Design/methodology/approachThe authors use both ordinary least squares and quantile regressions from January 2007 to January 2018. Quantile regression permits to know how the effects of explanatory variables vary across the different states of the market.FindingsThe results of this paper indicate that the impact of local macroeconomic and global factors differs across the quantiles and markets. Generally, there are wide ranges in degree of international integration and most of MENA stock markets appear to be weakly integrated. This reveals that the portfolio diversification within the stock markets in this region is still beneficial.Originality/valueThis paper is original for two reasons. First, it emphasizes, over a fairly long period, the impact of a large number of macroeconomic and global variables on the MENA stock market returns. Second, it examines if the relative effects of these factors on MENA stock returns vary or not across the market states and MENA countries.

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Unknown Unknowns: Uncertainty About Risk and Stock Returns

Journal of Financial and Quantitative Analysis ◽

10.1017/s0022109018000480 ◽

2018 ◽

Vol 53 (4) ◽

pp. 1615-1651 ◽

Cited By ~ 28

Author(s):

Guido Baltussen ◽

Sjoerd van Bekkum ◽

Bart van der Grient

Keyword(s):

United States ◽

Stock Returns ◽

Stock Prices ◽

Stock Markets ◽

The United States ◽

Pricing Mechanism ◽

European Stock Markets ◽

Low Uncertainty ◽

High Uncertainty

Stocks with high uncertainty about risk, as measured by the volatility of expected volatility (vol-of-vol), robustly underperform stocks with low uncertainty about risk by 8% per year. This vol-of-vol effect is distinct from (combinations of) at least 20 previously documented return predictors, survives many robustness checks, and holds in the United States and across European stock markets. We empirically explore the pricing mechanism behind the vol-of-vol effect. The evidence points toward preference-based explanations and away from alternative explanations. Collectively, our results show that uncertainty about risk is highly relevant for stock prices.

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The Impact of Investor Sentiment on Return of Different Industries in Pakistan

NICE Research Journal ◽

10.51239/nrjss.v0i0.14 ◽

2017 ◽

pp. 1-23

Author(s):

Sumayya Chughtai Et al.,

Keyword(s):

Stock Returns ◽

Principle Component Analysis ◽

Negative Relationship ◽

Investor Sentiment ◽

Differential Impact ◽

Future Period ◽

Market Sentiment ◽

Available Information ◽

The Impact ◽

The Relationship

We classify stocks in different industries to measure industrial sentiment based on principle component analysis in order to examine whether investor sentiment exerts a differential impact on stock returns across different industries. After having constructed industry-level sentiment indices we construct a composite investor sentiment index. Our results suggest that investor sentiment negatively affects current as well as future stock returns in Pakistan over the examined period. However, we find that the influence of investor sentiment varies substantially across different industries. We also find that the market sentiment index has a negative relationship with both current and future stock returns. We also show that the direction of the relationship between return and sentiment remains same for the current and future period. This indicates that investors overreact to the available information and mispricing exists for a prolonged time. Our results confirm that sentiment driven mispricing persists for upcoming time and stock markets are not fully efficient to adjust instantaneously.

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Googling Investor Sentiment around the World

Journal of Financial and Quantitative Analysis ◽

10.1017/s0022109019000061 ◽

2019 ◽

Vol 55 (2) ◽

pp. 549-580 ◽

Cited By ~ 5

Author(s):

Zhenyu Gao ◽

Haohan Ren ◽

Bohui Zhang

Keyword(s):

Stock Prices ◽

Stock Markets ◽

Investor Sentiment ◽

Search Behavior ◽

Market Returns ◽

Country Level ◽

The World ◽

Google Search

We study how investor sentiment affects stock prices around the world. Relying on households’ Google search behavior, we construct a weekly measure of sentiment for 38 countries during 2004–2014. We validate the sentiment index in tests using sports outcomes and show that the sentiment measure is a contrarian predictor of country-level market returns. Furthermore, we document an important role of global sentiment in stock markets.

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"The Components Of Stock Prices: Evidence From The Japanese Stock Markets"

Journal of Applied Business Research (JABR) ◽

10.19030/jabr.v16i1.2028 ◽

2011 ◽

Vol 16 (1) ◽

Author(s):

Dimitrios K. Tsoukalas

Keyword(s):

Stock Returns ◽

Stock Prices ◽

Stock Markets ◽

Equity Markets ◽

Equity Returns ◽

Font Size ◽

Data Set ◽

Explanatory Variables ◽

Information Hypothesis ◽

Structural Vector

This study establishes permanent and temporary components of equity returns in the Japanese equity markets using, as explanatory variables, the fundamentals of stock prices.  We employ the structural Vector Auregression Approach (VAR) to a data set for the period January 1955 to December 1997.  We consider the "information" hypothesis of dividends to justify the components of stock returns.

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Heterogeneous beliefs and idiosyncratic volatility puzzle: evidence from China

China Finance Review International ◽

10.1108/cfri-07-2019-0128 ◽

2020 ◽

Vol ahead-of-print (ahead-of-print) ◽

Author(s):

Mao He ◽

Juncheng Huang ◽

Hongquan Zhu

Keyword(s):

Stock Returns ◽

Trading Volume ◽

Factor Model ◽

Heterogeneous Beliefs ◽

Idiosyncratic Volatility ◽

Chinese Stock Market ◽

Content Type ◽

Volatility Puzzle ◽

The Relationship ◽

Idiosyncratic Volatility Puzzle

PurposeThe purpose of our study is to explore the “idiosyncratic volatility puzzle” in Chinese stock market from the perspective of investors' heterogeneous beliefs. To delve into the relationship between idiosyncratic volatility and investors' heterogeneous beliefs, and uncover the ability of heterogeneous beliefs, as well as to explain the “idiosyncratic volatility puzzle”, we construct our study as follows.Design/methodology/approachOur study adopts the unexpected trading volume as proxies of heterogeneity, the residual of Fama–French three-factor model as proxies of idiosyncratic volatility. Portfolio strategies and Fama–MacBeth regression are used to investigate the relationship between the two proxies and stock returns in Chinese A-share market.FindingsInvestors' heterogeneous beliefs, as an intermediary variable, are positively correlated with idiosyncratic volatility. Meanwhile, it could better demonstrate the negative correlation between the idiosyncratic volatility and future stock returns. It is one of the economic mechanisms linking idiosyncratic volatility to subsequent stock returns, which can account for 11.28% of the puzzle.Originality/valueThe findings indicate that idiosyncratic volatility is significantly and positively correlated with heterogeneous beliefs and that heterogeneous beliefs are effective intervening variables to explain the “idiosyncratic volatility puzzle”.

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Option prices and model-free measurement of implied herd behavior in stock markets

International Journal of Financial Engineering ◽

10.1142/s2424786315500127 ◽

2015 ◽

Vol 02 (02) ◽

pp. 1550012 ◽

Cited By ~ 5

Author(s):

Daniël Linders ◽

Jan Dhaene ◽

Wim Schoutens

Keyword(s):

Stock Prices ◽

Stock Markets ◽

Random Variables ◽

Herd Behavior ◽

Option Prices ◽

Market Sentiment ◽

Model Free ◽

Risk Neutral ◽

Market Perception ◽

Future Date

In this paper, we introduce two classes of indices which can be used to measure the market perception concerning the degree of dependency that exists between a set of random variables, representing different stock prices at a fixed future date. The construction of these measures is based on the theory of comonotonicity. Both types of herd behavior indices are model-free and risk-neutral, derived from available option data. Depending on its particular definition, each index represents a particular aspect of the market sentiment concerning future co-movement of the underlying stock prices.

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Stock returns and the US dollar: the importance of monetary policy

Managerial Finance ◽

10.1108/mf-09-2014-0234 ◽

2015 ◽

Vol 41 (10) ◽

pp. 1046-1058 ◽

Cited By ~ 1

Author(s):

J. Christopher Hughen ◽

Scott Beyer

Keyword(s):

Economic Growth ◽

Monetary Policy ◽

Stock Returns ◽

Foreign Exchange ◽

Stock Prices ◽

Factor Model ◽

Consumer Spending ◽

Content Type ◽

The Us ◽

The Impact

Purpose – In the increasingly globalized economy, foreign exchange fluctuations have multiple, conflicting effects on domestic stock prices. The purpose of this paper is to examine return data to determine the relation between the dollar’s value and stock prices as it relates to monetary policy. Design/methodology/approach – The authors examine US stock returns over a 40-year period, which is classified according to monetary policy and dollar trend. To better understand the impact of foreign exchange fluctuations, the authors estimate a model of stock returns using the three Fama-French factors and a momentum factor. Then the authors explore the underlying economic fundamentals that drive the sharp difference in annual returns between periods when the dollar is in an uptrend trend with loose monetary policy and periods when the dollar is in a downtrend with tight monetary policy. Findings – Over the last 40 years, US stock returns were 2.5 times higher when the dollar was trending up vs down. The factor model of returns shows that equity returns are positively associated with periods when the dollar appreciated. Returns were particularly high when the dollar was in an uptrend during accommodative monetary policy. During these periods, stocks in the consumer goods and services industries provided relatively high returns. This occurred with strong economic growth due to consumer spending. Stocks exhibited the lowest returns when the dollar was depreciating and the Federal Reserve was tightening. Originality/value – The key contribution of the research is that currency trends should be analyzed in the light of monetary policy. During periods of accommodative monetary policy and dollar appreciation, the US stock market provided average returns of 18.7 percent compared to −3.29 percent during a period of restrictive monetary policy and dollar depreciation. This result is driven by stronger economic growth, which is composed of consumer spending that more than offsets the dollar’s impact on net exports.

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US policy uncertainty and stock returns: evidence in the US and its spillovers to the European Union, China and Japan

The Journal of Risk Finance ◽

10.1108/jrf-10-2019-0190 ◽

2020 ◽

Vol 21 (5) ◽

pp. 621-657

Author(s):

Thomas C. Chiang

Keyword(s):

Monetary Policy ◽

Fiscal Policy ◽

Trade Policy ◽

Stock Returns ◽

Stock Prices ◽

Stock Markets ◽

Implied Volatility ◽

Policy Uncertainty ◽

Content Type ◽

China And Japan

Purpose Recent empirical studies by Antonakakis, Chatziantoniou and Filis (2013), Brogaard and Detzel (2015) and Christou et al. (2017) present evidence, which supports the notion that a rise in economic policy uncertainty (EPU) will lead to a decline in stock prices. The purpose of this paper is to examine US categorical policy uncertainty on stock returns while controlling for implied volatility and downside risk. In addition to the domestic impacts of policy uncertainty, this paper also presents evidence that changes in US policy uncertainty promptly propagates to the global stock markets. Design/methodology/approach This study uses a GED-GARCH (1, 1) model to estimate changes of uncertainties in US monetary, fiscal and trade policies on stock returns for the sample period of January 1990–December 2018. Robustness test is conducted by using different set of data and modeling techniques. Findings This paper contributes to the literature in several aspects. First, testing of US aggregate data while controlling for downside risk and implied volatility, consistently, shows that responses of stock prices to US policy uncertainty changes, not only display a negative effect in the current period but also have at least a one-month time-lag. The evidence supports the uncertainty premium hypothesis. Second, extending the test to global data reveals that US policy uncertainty changes have a negative impact on markets in Europe, China and Japan. Third, testing the data in sectoral stock markets mainly displays statistically significant results with a negative sign. Fourth, the evidence consistently shows that changes in policy uncertainty present an inverse relation to the stock returns, regardless of whether uncertainty is moving upward or downward. Research limitations/implications The current research is limited to the markets in the USA, eurozone, China and Japan. This study can be extended to additional countries, such as emerging markets. Practical implications This paper provides a model that uses categorical policy uncertainty approach to explain stock price changes. The parametric estimates provide insightful information in advising investors for making portfolio decision. Social implications The estimated coefficients of changes in monetary policy uncertainty, fiscal policy uncertainty and trade policy uncertainty are informative in assisting policymakers to formulate effective financial policies. Originality/value This study extends the existing risk premium model in several directions. First, it separates the financial risk factors from the EPU innovations; second, instead of using EPU, this study investigates the effects from monetary policy, fiscal policy and trade policy uncertainties; third, in additional to an examination of the effects of US categorical policy uncertainties on its own markets, this study also investigates the spillover effects to global major markets; fourth, besides the aggregate stock markets, this study estimates the effects of US policy uncertainty innovations on the sectoral stock returns.

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