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PhD Dissertation

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The dissertation addresses three topics on investor sentiment in asset pricing.

The first essay investigates the impact of market sentiment on the recent debate on equity premium forecasting. Particularly, market sentiment may break the link between fundamental economic predictors and equity premium. We find that economic predictors tend to lose their power and various remedies proposed in recent studies, such as non-negativity constraints, no longer work during high sentiment periods. In contrast, economic predictors actually do have strong performances even without using any such remedies, as long as the sentiment stays low enough so as not to distort the link. Moreover, non-fundamental predictors, such as the 52-week high, work only when sentiment is high but not when sentiment is low since their performances rely on behavioural activities significant only during high sentiment periods. Finally, investors can be better-off by conducting paradigm shifts between using fundamental predictors in low sentiment periods and using non-fundamental predictors in high sentiment periods. The second essay shows that there seems too much (more than 60%) fundamental related information in the Baker and Wurgler investor sentiment index (the BW index). Using a novel approach, we remove the fundamental related information in the BW index to obtain a purged sentiment (IS-P) index. The IS-P index outperforms the BW index in capturing the sentiment impact on cross-sectional stock returns and also beats various survey-based sentiment indices. Given that numerous studies are shadowed by the risk of producing misleading results by treating the potentially fundamental information dominated BW index as a behavioural variable, the IS-P index seems providing a safer choice for sentiment studies. The third essay re-examines a classical topic in asset pricing: the risk and return tradeoff. Numerous studies have examined the risk and return relation, which should be theoretically positive according to Merton’s ICAPM model. However, the risk and return relation is surprisingly weak and even negative empirically. We argue that the theoretically positive risk and return relation might have been weakened or even reversed empirically by non-fundamental forces or “animal spirits”. Given that the animal spirits could be one key reason for the existing mixed and sensitive results, we measure the risk-return relation conditioning on fundamentals only. Now the impact of non-fundamental forces has been largely controlled and a positive risk and return relation can be restored.


investor sentiment, return predictability, fundamental predictors, behavioral bias, risk-return relation

Degree Awarded

PhD in Business (Finance)


Corporate Finance | Finance and Financial Management


HU, Jianfeng


Singapore Management University

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Singapore Management University

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Creative Commons License

Creative Commons Attribution-Noncommercial-No Derivative Works 4.0 License
This work is licensed under a Creative Commons Attribution-Noncommercial-No Derivative Works 4.0 License.

Available for download on Monday, June 01, 2020