The Effect Of Investor Sentiment On Investor Feedback Trading

In the traditional finance theory, investors are assumed to be rational, their behavior follows the principle of expected utility maximization, their investment decisions are based on the capital asset pricing model. While, in reality, investors are always limited rationality. Previous studies have shown that investors appear the feedback trading behavior in the investment decision, and investor sentiment affects the assets return rate. And researchers also take into account the influence of investor sentiment in the formulation of "hedging strategy","arbitrage strategy" and "momentum trading strategy". Investor sentiment has an influence on return on assets because of investor sentiment affect the behavior of investors. When in high spirits, their behavior-buy or sell-affect the price of assets, but there exists many kinds of behavior, this article attempts to explore the effect of investor sentiment on investor feedback trading behavior, and when investors in different emotional state, whether their feedback trading behavior is also different.In order to explore feedback trading, this paper chose SW model and its extensions. SW model assumes that there are two types of investors in the market:①rational investors;②feedback traders. The rational investor maximize profits according to a certain level of risk in the decision-making principles, following CAPM; while feedback traders make decisions based on the earning of assets. The extend SW model in this paper assume feedback trader’s decisions were affected not only by the assets of a period of earnings, but also by the emotional impact of investors, so investor sentiment, as a variable, is added to the feedback trading model.In order to include the whole stage of Chinese stock market-rise, decline and stable, the data selected from January4,2007to April30,2014. The investor sentiment index is monthly data, while the feedback trading data is daily data. For investor sentiment index, in order to avoid the subjective factors when selecting indicators, we selects kinds of investor sentiment index, and construct a composite index. And for the feedback trading data, in order to directly measure the direct effect of investor sentiment on investor behavior, this paper choose ETF data, and the advantages of ETF data are:firstly, the return data of ETF is directly affected by investor’s behavior; secondly, it can effectively avoid non synchronous trading which leads to return auto-correlation. In the end, this paper find a most suitable model to reflect the influence of investor sentiment on the feedback trading behavior, and this paper test the model on different stages of the market. The results show:firstly, more active trading and larger size of ETF funds have positive feedback trading behavior, and investor sentiment has a significant impact on feedback trading behavior, the more positive of sentiment, the greater the influence of positive feedback trading behavior on return rate, and vice verse; secondly, only the more active trading fund, the feedback trading behavior in the model can be statistical. While, if the transaction is not active, it is difficult to statistic the feedback trading behavior of investors with measurement method; thirdly, the overall market environment is an important factor in relation to investor sentiment and the feedback trading behavior. In the rising stage of the market, the large proportion of individuals for funds showed positive feedback trading behavior, while when the sentiment is positive, the less proportion of individuals for funds, the positive feedback trading behavior is not significant, probably, at this stage, this kind of fund holders are aware of the existence of risk,’behavior is more rational than emotion.’In the decline stage of the market, only when the investor sentiment is positive,existing the positive feedback trading behavior, maybe due to this stage, the emotion is negative, and the whole market is not active, feedback trading behavior is not easy to be statistical. In the stable stage of the market, only in positive investor sentiment, there appears the positive feedback trading behavior; while the smaller, more personal proportion of the fund, in negative mood, there will be negative feedback trading behavior, at this time, the fund holders may have no confidence in the market.The innovation of this paper lies in:firstly, in the choice of investor sentiment indicators, not only with reference to previous methods structure which in accordance with the China composite investor sentiment index, but also use other individual sentiment indexes testing for robustness of feedback trading model, thus the conclusion has more persuasion. Secondly, this paper finds out the suitable model to test influence of investor sentiment on investor feedback trading behavior in Chinese market, and base on the model, we can directly tested the influence of investor sentiment on the feedback trading behavior, which is a supplement to the existing research.The research results of this paper show, investor type and the type of its holdings is an important factor to affect the relationship between investor sentiment and the feedback trading behavior, in the rising stage of the market, when investor’s emotion is positive, less personal holdings of a fund, positive feedback trading behavior is not significant; while in the stable stage, when investor’s emotion is negative, exists negative feedback trading behavior. The explanation for that is in the particular period, the behavior of institutional holders is more rational than their emotion, and individual holders in the negative emotion, have no confidence in the market, as long as the asset prices rise they will sell out the fund. This paper only made a preliminary conclusion about differences on the influence of emotion between the different fund holders on the feedback trading behavior, and more detailed difference in the different investor sentiment in the feedback trading behavior need continuing studying.