Abstract
AbstractIn this paper, we examine if herding behaviour in the equity market can be explained by option‐implied information. Our empirical results confirm the commonly reported absence of herding as a general tendency in the U.S. equity market. However, we find evidence of significant herding behaviour during periods when option‐implied information reflects a pessimistic view about the future prospects of the equity market. More specifically, we find that individual stock returns tend to cluster more closely around the market consensus during days of high implied index volatility, more pronounced negative implied skewness, and higher trading volume in index puts.
Highlights
The behavioural finance literature has been paying increasing attention to the way in which investors form beliefs about the future evolution of asset prices and, how they trade based on these beliefs
Crisis periods and macroeconomic announcement dates are included as additional regressors in the herding specification, the crosssectional dispersion of stock returns is still found to be significantly related to the index's implied volatility and implied skewness, as well as to trading activity in the options market
This paper examines herding behaviour in the U.S equity market, with a particular emphasis on whether information extracted from the corresponding options market can explain herding effects when trading stocks
Summary
The behavioural finance literature has been paying increasing attention to the way in which investors form beliefs about the future evolution of asset prices and, how they trade based on these beliefs. Our empirical findings support the notion that investors' expectations about the future performance of the equity market, as these are reflected by forward-looking information extracted from the options market, are strongly related to their propensity to herd when trading individual stocks. In this sense, herding behaviour seems to prevail during periods of market stress rather reflecting a general tendency. The dot-com and the financial crisis periods refer to March 2000 to August 2002 and September 2007 to March 2009, respectively
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