Behavioral Economics and Finance Leadership by Julia Puaschunder

Author:Julia Puaschunder
Language: eng
Format: epub
ISBN: 9783030543303
Publisher: Springer International Publishing

5.3 Social Phenomenon and Leaders in the Field

While news play some role in determining stock market changes, large market moves often occur on days without any identifiable major news releases. Stock price movements are not fully explicable by news about future cash flows and discount rates (Cutler, Poterba & Summers, 1988). The standard approach holds that fluctuations in asset prices are attributable to changes in fundamental values. The event study literature has demonstrated that share prices react to announcements about corporate control, regulatory policy, and macroeconomic conditions that plausibly affect fundamentals. Several recent studies of asset pricing have challenged the view that stock price movements are wholly attributable to the arrival of new information. Roll’s (1984) analysis of price fluctuations in the market for orange juice futures suggests that news about weather conditions, the primary determinant of the price of the underlying commodity, can explain only a small share of the variation in returns. Shiller’s (1981) claim that stock returns are too variable to be explained by shocks to future cash flows, or by plausible variation in future discount rates, is also an argument for other sources of movement in asset prices. Frankel and Meese (1987) report similar difficulties in explaining exchange rate movements. French and Roll (1986) demonstrate that the variation in stock prices is larger when the stock market is open than when it is closed, even during periods of similar information release about market fundamentals. Roll (1984) estimated the fraction of return variation that can be attributed to various news, which explains about one-third of the variance in stock returns. Neiderhoffer (1971) analyzes stock market reactions to identifiable world news. While news regarding wars, the Presidency, or significant changes in financial policies affects stock prices, the results render it implausible that qualitative news can account for all of the return components that cannot be traced to macroeconomic innovations (Cutler et al., 1988).

Stock market price expectations develop from news, word-of-mouth, and social information sharing. News released too many leads to an expected diffusion rate as the change in the fraction of investors with the news that declines with time. But news initially released to few leads to an expected diffusion rate that initially increases in time and only then decreases. The serial correlation of stock returns and trading volume are proportional to the diffusion rate (Hong, Hong, & Ungureanu, 2012).

Diversity of opinions among investors plays a crucial role in models of financial market speculation and bubbles. By using data from China, it was found that investors living in linguistically diverse areas express more diverse opinions on stock message boards and trade stocks more actively. Language barriers slow news diffusion (Chang, Hong, Tiedens, Wang, & Zhao, 2015).

Chen, Hong and Stein (2002) show that entry of investors that have not previously owned the stock is associated with more over-pricing. The exit rate better captures the disagreement distribution of investors in similar fund styles actively evaluating a stock.

Stock market participation is a social phenomenon and therefore highly dependent on the social reference group (Hong, Kubik, & Stein, 2004).

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