Abstract
We apply several theories advanced for the mispricing of individual stock prices to suggest the existence of mispriced sectors. We find that sector upgrades result in a positive and significant sector share price response, while sector downgrades result in a negative and significant sector share price response. The favorable valuation effects associated with sector upgrades are more favorable when there is a high level of trading activity of the stocks in the sector, the sector share price runup is relatively weak, and the prevailing price-to-fundamental ratios in the sector are relatively low. In addition, the negative valuation effects associated with sector downgrades are more favorable when there is a high level of trading activity of the stocks in the sector and the share price runup is relatively strong. Overall, the valuation adjustments in response to changes in sector ratings vary with the prevailing market prices in the sector.
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