Investor Sentiments and Fama–French Five-Factor Premia

Abstract

This study provides new insights to predict the excess return of a security. As if factor premia are getting influenced by the sentiments that means sentiments are ultimately affecting the excess return of a security. To meet the objective, a composite index developed by Baker and Wurgler is used as sentiment proxy. Monthly data are used from July 1965 to September 2015 in U.S. context. Granger casualty, Vector Autoregression (VAR), and Fama–Macbeth regression are applied to get the results. Results show that investor sentiments significantly drive the Fama factors’ premia: size premium and profitability premium. Sentiments also contain some information to explain the investment premia but fail to explain the market risk premium and value premium. Furthermore, results suggest that sentiments increase the explanatory power of model measured by R square. In short, this study suggests that investor sentiments play a role in explaining the Fama–French five-factor premia.

Nexus Between Equity Pricing Models and Equity Price Fragility: Empirical Insights From Pakistan

“…Moreover, equity holders are ultimate resource holders. Equity risk shows risk preference behavior in equity allocation decisions (Habibah et al, 2021), resulting in the momentum of a new sixth factor of equity pricing (Liammukda et al, 2020) entirely failing to cover consumption-oriented reasons of equity investors in the equity market. These reasons explain traditional pricing factors and behavioral aspects i-e confidence and optimism in equity pricing or return determination, extending herding behavior and disposition effect in a rational market.…”