Behavioral finance and market efficiency in the time of the COVID-19 pandemic: does fear drive the market?

Abstract

In this study, we examine the efficiency of the US stock markets during the COVID-19 outbreak using a fundamental financial analysis approach, the constant growth model and a behavioral model including a Google-based Index. We juxtapose the released news and the performance of the US stock market during the COVID-19 outbreak and we show that during some periods the health risk was significantly underestimated and/or ignored. The Efficient Market Hypothesis (EMH) suggests that prices incorporate all the available information at any point in time, yet as we show a systemic factor, the health risk, was not always rationally incorporated in stock prices. The Runs-tests confirm our assumption that the market was not efficient during the examined period. The reason for this inefficiency could be that something is missing from traditional finance models, such as the impact of fear of COVID-19. For this reason we employ a Coronavirus Fear Index (CFI) based on Google searches and using Granger causality we provide empirical evidence that the fear drives the S&P500 performance, and using a GARCH model we show that the fear negatively influences the performance of the US stock market.

Influence of COVID-induced fear on sovereign bond yield

“…In this regard, the effects of the COVID factor are not only felt in the short term, but also in the long term as Cevik and € Ozt€ urkkal (2020) suggested by forecasting the possibility of higher sovereign financing costs From a behavioral perspective, this result supports previous studies such as those by Laborda and Olmo (2014) in the case of the US Treasury bond market and Muldur et al (2019) with risky bonds showing how sentiments can explain bond risk premiums. Moreover, specifically, the positive relationship between COVID-induced fear and the sovereign bond yield supports what was obtained by Naeem et al (2021), showing that while this fear is associated with reductions in stock market returns (Ly ocsa et al, 2020;Salisu & Akanni, 2020;Vasileiou, 2021), it is also associated with increases in bond yields.…”

“…In this study, the search volume for the coronavirus concept extracted from Google Trends (https://trends.google.com/trends/) was selected as a proxy for COVID-induced fear. This measure can be found in previous papers such as Chen et al (2020) and Vasileiou (2021). Since Google Trends was launched in 2006, it has been used as a primary data source in multiple research studies.…”

“…To achieve the proposed objective, the 10-year sovereign bond yield of the G7 countries (Germany, Canada, the United States, France, Italy, Japan, and the United Kingdom) was selected as a reference. As a proxy for COVID-induced fear, search volumes for the term coronavirus from Google Trends were taken in line with studies such as those by Chen et al (2020) and Vasileiou (2021). Thus, by applying a panel data approach for the period from 1 January 2020 to 31 December 2020, we found that this fear has a positive impact on the 10-year sovereign bond yield.…”

Explaining stock markets' performance during the COVID‐19 crisis: Could Google searches be a significant behavioral indicator?

“…In our analysis, we try to quantify the impact and the health/fear risk of COVID‐19 using (i) data on the daily reported new COVID‐19 cases (announcement effect), which have been widely used in similar studies (Al‐Awadhi et al, 2020 ; Albulescu, 2020 ; Ashraf, 2020 ), and (ii) an index based on Google searches that are related to the COVID‐19 disease. The Google index can be used as a leading indicator on the impact of COVID‐19 (O'Leary & Storey, 2020 ) and as a means to quantify the COVID‐19 health risk and introduce a behavioral factor (Vasileiou, 2021a ).…”

Fighting a war without weapons? Lessons from the COVID‐19 outbreak

“…To illustrate this paradox, I use a Google Trends code that enables me to present the Google Searches Index from all over the world for the terms “Coronavirus,” “Medical Masks,” and “Medical Masks Shortage” (Figure 1). The “Coronavirus” index is used as a fear sentiment index (Vasileiou, 2020) in which higher index indicates higher fear. A basic MAPPE is a medical mask, which is a highly recommended protective measure against the spread of the virus.…”