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Can Investor Mood Swings Determine Stock Performance?

Securities that outperformed in positive mood periods are not likely to do well in negative mood seasons, according to research.

Investor mood swings could help explain certain stocks’ return seasonalities and even mispricings, research has found.

Securities that performed well during what are considered investors’ high mood swings (e.g. January, pre-season holidays, or Fridays) earned higher expected returns during other upbeat mood seasons, according to David Hirshleifer (University of California, Irvine), Dangling Jiang (State University of New York at Stony Brook), and Yuting Meng (University of South Florida).

These stocks, however, exhibited lower than expected returns during negative mood seasons, such as those associated with daylight savings time changes and poor weather conditions.

“A mood beta estimated using security returns in seasons with mood changes helps to predict future seasonal returns in other periods in which mood is expected to change,” the authors continued.

Furthermore, some stocks are more sensitive to mood changes than others, resulting in a higher “mood beta,” the paper said. 

Using securities data from 1963 to 2015, the researchers found the average stock excess return was highest in January and lowest in October, and this pattern persisted for 10 or more years.

“In our interpretation, stocks that do better than others during one month will tend to do better again in the same month in the future because there is a congruent mood at that time,” they said.

The research also found investor mood swings can lead to “misconceptions about factor and idiosyncratic payoffs,” which point to a mispricing in both.

“In periods with positive mood shifts,” the authors concluded,” stocks with higher loadings on the factor that is becoming overpriced, and/or with higher firm-specific sensitivity to the mood shocks, will earn higher average returns.”

Read the full report, “Mood Beta and Seasonalities in Stock Returns.”

Related: Capturing the January to Halloween Premia—on the Cheap

| Christine.Giordano@strategic-i.com | 212-217-6929