Abstract
Theoretical studies find that optimistic investors, who overweight the probabilities of better outcomes, can survive and influence asset prices even in a competitive market. To study the impact of optimistic investors on the cross-section of expected stock returns, I define the measure of attractiveness to optimists of a stock based on rank-dependent probability weighting. In both portfolio-level and firm-level analyses, I find an economically and statistically significant negative relation between the measure of attractiveness to optimists and the expected stock return even after controlling for a set of control variables in the cross-section of U.S. stock returns. Furthermore, this framework both conceptually and empirically subsumes the MAX effect, one of the most common characteristics for lottery-type stocks.
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