Business Commons^™

Investor Sentiment, Disagreement, And The Breadth Return Relationship, Hai Lu, Ling Cen, Liyan Yang

Research Collection School Of Accountancy

We extend the theory and empirics in Chen, Hong, and Stein (2002) by assuming that investors subject to market sentiment hold a biased belief in the aggregate. With a dynamic multi-asset model, we predict that the breadth-return relationship can be either positive or negative depending on the relative strength of two offsetting forces — disagreement and sentiment. Using the sentiment index developed in Baker and Wurgler (2006, 2007), we find evidence consistent with our predictions. The breadth-return relationship is positive when the sentiment effect is small. However, the relationship becomes negative when (i) the time-series variation of market-wide sentiment is …