Behavioral Finance and Asset Pricing
Friday, Jan. 7, 2022 10:00 AM - 12:00 PM (EST)
- Chair: Samuel Hartzmark, University of Chicago
AbstractThis paper is the first to study the cross-section of currency excess return predictors to explore alternative explanations for their existence. Using real-time data, quantitative currency trading strategies are profitable during in-sample and out-of-sample periods, even after transaction costs and comprehensive risk adjustments. However, (risk-adjusted) profits decrease substantially after the publication of the underlying academic research. In line with predictor profits reflecting mispricing, the decline is greater for strategies with larger in-sample profits and lower arbitrage costs. Moreover, the effect of risk adjustments on trading profits is limited, and signal ranks and alphas decay quickly. While analysts’ currency forecasts are inconsistent with currency predictors, analysts update their forecasts quickly to incorporate lagged predictor information. The results suggest that market participants learn about mispricing from academic publications, while contributing to it when following analysts’ forecasts.
Risk Aversion Propagation: Evidence from Financial Markets and Controlled Experiments
AbstractWhile the time variation in investor risk appetite is widely examined, there is scant research on how investor risk appetite may respond in an international context. We study risk aversion (RA) propagation from US to other major developed economies using both financial market data and controlled experiments. By exploiting daily financial market and news data between 2000 and 2017, we identify US risk aversion events -- both high and low -- and show that the international pass-through of US high RA events is significantly higher (61%) than that of US low RA events (43%), suggesting asymmetric US risk aversion propagation. Next, in our experiment, non-US subjects when primed with a US financial bust shock exhibited asymmetrically lower positive emotion, higher negative emotion and higher risk aversion than those primed with a US boom shock. The foreign nature of negative shocks may change emotions more than that of positive shocks, hence resulting in asymmetric risk aversion propagation. Our evidence shows that such an ``emotion'-related mechanism explained up to 20% of the asymmetry.
Can Agents Add and Subtract When Forming Beliefs? Evidence from the Lab and Field
AbstractBayes’ Theorem has an implicit, fundamental rule of how subjects should incorporate informationally equivalent signals of opposite direction: two opposite-directional signals should cancel out such that prior beliefs remain constant. In this study, we test whether agents always follow this simple counting heuristic. We find that this is not the case. Whenever a sequence of signals that go in the same direction is interrupted by a signal of opposite direction, agents violate the simple counting heuristic and strongly overreact to the signal of opposite direction. In contrast to that, subjects correctly follow the counting heuristic whenever opposite-directional signals alternate. Building on our experimental findings, we empirically analyze announcement and post-announcement stock return reactions. In line with our experimental evidence, we identify that initial stock reactions are significantly more extreme for opposite-directed earnings surprises than for same-directed earnings surprise.
- G3 - Corporate Finance and Governance