# Optimism in Financial Markets: Stock Market Returns and Investor Sentiments

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## Abstract

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## 1. Introduction

## 2. Literature Review

#### 2.1. Investor Sentiment

#### 2.2. Empirical Investigation

## 3. Methodology

#### 3.1. Indices and Models

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- Close-end fund discount rate (CEFD);
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- Share turnover (TURN);
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- Number of IPOs (NIPO);
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- First-day returns of IPOs (RIPO);
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- Dividend premium (PDND); and
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- Equity share in new issues (EQTI).

#### 3.2. Data

- Stock excess market returns of U.S. market, SEMRUS: calculated from price of S&P500, including dividends and in excess of the risk free rate (3-month US treasury bill);
- Continuous compounding of S&P500, COMPOUND: calculated without dividends, in excess of risk free rate (10-year US treasury bill);
- Investor sentiment index, BW: calculated by (Baker and Wurgler 2006), through the PC method;
- Orthogonalised investor sentiment index, BWORT: calculated by (Baker and Wurgler 2006), the orthogonalisation is applied in order to reduce the systematic risk;
- Aligned investor sentiment index, SPLS: calculated by (Huang et al. 2014), through the PLS method;
- Orthogonalised aligned investor sentiment index, SPLSORT: calculated by (Huang et al. 2014), the orthogonalisation is applied for the same reasons as before;
- Conference Board Consumer Confidence Index of US, CB_CONS: calculated through surveys on expectations about business conditions, employment and income, from consumers over a six-month horizon;
- CBOE’s Volatility of S&P500, VIX: annualised standard deviation, also known as uncertainty index, it is calculated from near expectations (one-month horizon) about stock market volatility.

- Stock excess market returns of EU market, SEMREU: calculated from price of Euro Stoxx 50, including dividends and in excess of the risk free rate (3-month Euribor);
- Continuous compounding of Euro Stoxx 50, COMPOUND: calculated without dividends, in excess of risk free rate (10-year German government bond);
- Economic Sentiment Indicator of European countries, ESI_EU: published monthly by the European Commission, it consists of five sectoral confidence indicators (based on results from business surveys), which are: industry (40%), services (30%), consumers (20%), construction (5%) and retail trade (5%);
- Economic Sentiment Indicator of Eurozone, ESI_EUZONE: composite calculated only for the Eurozone countries;
- Consumer Confidence Indicator of Europe, CONSCONF: calculated from surveys on the financial situation of households, the general economic situation, unemployment expectations and savings, over one year horizon;
- Industrial Confidence Indicator of Europe, INDUCONF: calculated from surveys on production expectations, order books and stocks of finished products;
- Economic Sentiment Indicator of Germany, ZEW_DEU: calculated from surveys on expectations about macroeconomic development, financial and industrial profit situation over the following six months;
- Ifo Business Climate Index, IFO: dealing with the assessments of business situation and future expectations, it is calculated from surveys on different sectors from enterprises, such as manufacturing, construction, wholesaling and retailing, over a six-month horizon.

#### 3.3. Empirical Results

#### 3.3.1. The U.S. Market

#### 3.3.2. The European Market

#### 3.3.3. Spillover Effect

## 4. Conclusions

## Author Contributions

## Funding

## Acknowledgments

## Conflicts of Interest

## References

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1. | We also investigate uniform flat priors. For the US example the results are almost identical; for the EU exercise we find large parameter uncertainties and lower forecast accuracy. |

**Figure 2.**Plot of the sentiment indices, SPLS and BWORT, and the stock market returns, SEMRUS, for the entire range of 1990–2014.

**Figure 4.**Plot of the economic indices, CONSCONF and INDUCONF, and the stock market returns, SEMREU, for the entire range 2001–2017.

Variable | Post Mean ß | Bayesian t-Stat | Positive Post. Distr. | MSPE Ratio |
---|---|---|---|---|

SPLS | −1.079 | −1.965 | 0.050 | 0.933 ** |

BW | −2.200 | −3.149 | 0.002 | 0.926 ** |

SPLSORT | −1.041 | −2.068 | 0.040 | 0.940 ** |

BWORT | −2.350 | −3.318 | 0.001 | 0.939 ** |

CB_CONS | −0.046 | −1.685 | 0.093 | 0.938 ** |

VIX | −0.259 | −5.150 | 0.000 | 0.954 ** |

Variable | Post Mean ß | Bayesian t-Stat | Positive Post. Distr. | MSPE Ratio |
---|---|---|---|---|

ESI_EU | −0.040 | −0.410 | 0.663 | 1.000 |

ESI_EUZONE | −0.040 | −0.332 | 0.740 | 0.999 |

CONSCONF | −0.490 | −2.690 | 0.006 | 1.000 |

INDUCONF | 0.012 | 0.143 | 0.894 | 1.002 |

ZEW_DEU | 0.013 | 0.723 | 0.463 | 1.036 |

IFO | 0.052 | 0.503 | 0.584 | 1.030 |

Variable | Post Mean ß | Bayesian t-Stat | Positive Post. Distr. | MSPE Ratio |
---|---|---|---|---|

SPLS | −3.880 | −3.061 | 0.003 | 1.095 |

BW | −3.195 | −3.055 | 0.003 | 0.990 |

SPLSORT | −4.964 | −3.588 | 0.001 | 1.064 |

BWORT | −3.283 | −2.902 | 0.005 | 1.018 |

CB_CONS | 0.097 | 2.224 | 0.029 | 1.037 |

VIX | −0.161 | −1.566 | 0.121 | 1.037 |

Variable | Post Mean ß | Bayesian t-Stat | Positive Post. Distr. | MSPE Ratio |
---|---|---|---|---|

ESI_EU | −0.120 | −3.997 | 0.000 | 1.021 |

ESI_EUZONE | −0.127 | −4.387 | 0.000 | 0.997 |

CONSCONF | −0.191 | −4.862 | 0.000 | 0.976 * |

INDUCONF | −0.117 | −3.550 | 0.001 | 1.060 |

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**MDPI and ACS Style**

Limongi Concetto, C.; Ravazzolo, F.
Optimism in Financial Markets: Stock Market Returns and Investor Sentiments. *J. Risk Financial Manag.* **2019**, *12*, 85.
https://doi.org/10.3390/jrfm12020085

**AMA Style**

Limongi Concetto C, Ravazzolo F.
Optimism in Financial Markets: Stock Market Returns and Investor Sentiments. *Journal of Risk and Financial Management*. 2019; 12(2):85.
https://doi.org/10.3390/jrfm12020085

**Chicago/Turabian Style**

Limongi Concetto, Chiara, and Francesco Ravazzolo.
2019. "Optimism in Financial Markets: Stock Market Returns and Investor Sentiments" *Journal of Risk and Financial Management* 12, no. 2: 85.
https://doi.org/10.3390/jrfm12020085