Individual Investor Sentiment and Stock Returns - What do we learn from individual warrant traders?

Abstract

There is a huge literature on investor sentiment measures and their relation to stock returns. However, extant sentiment measures are subject to a variety of methodological problems. We propose and empirically test a new measure of individual investor sentiment, that is derived from the market for bank-issued warrants. With our measure we simultaneously avoid several problems of other sentiment measures. We find empirical evidence that there exits an interaction effect between individual investors sentiment and stock market returns in the short-run. Investor sentiment is influenced by the return of big company stocks and their volatility and itself influences the returns of those big companies and even more the returns of small companies. Our findings are consistent with the theory of DeLong, Shleifer, Summers, and Waldmann (1990).