Investor sentiment aligned: : A powerful predictor of stock returns
TLDR
This article proposed a new investor sentiment index that is aligned with the purpose of predicting the aggregate stock market by eliminating a common noise component in sentiment proxies, the new index has much greater predictive power than existing sentiment indices have both in and out of sample, and the predictability becomes both statistically and economically significant.Abstract:
We propose a new investor sentiment index that is aligned with the purpose of predicting the aggregate stock market. By eliminating a common noise component in sentiment proxies, the new index has much greater predictive power than existing sentiment indices have both in and out of sample, and the predictability becomes both statistically and economically significant. In addition, it outperforms well-recognized macroeconomic variables and can also predict cross-sectional stock returns sorted by industry, size, value, and momentum. The driving force of the predictive power appears to stem from investors' biased beliefs about future cash flows.read more
Citations
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Risks for the Long Run: A Potential Resolution of Asset Pricing Puzzles
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Tail Risk Premia and Return Predictability
TL;DR: In this paper, the variance risk premium, defined as the difference between the actual and risk-neutral expectations of the forward aggregate market variation, is used to predict future market returns.
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Manager sentiment and stock returns
TL;DR: This article found that manager sentiment is a strong negative predictor of future aggregate stock market returns, with monthly in-sample and out-of-sample R2s of 9.75% and 8.38%, respectively, which is far greater than the predictive power of other previously studied macroeconomic variables.
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Tail Risk Premia and Return Predictability
TL;DR: This paper showed that the variance risk premium, defined as the difference between actual and risk-neutralized expectations of the forward aggregate market variation, helps predict future market returns, and that much of this predictability may be attributed to time variation in the shape of the tails and compensation demanded by investors for bearing jump tail risk.
References
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