Behavioral Asset Pricing Model Based On Investor Sentiment

There were a great many of research achievements after the modern finance theoryestablished. However, lots of abnormalies of investors' behavior and anomalies of financemarket avalanched since the end of1970s and challeged the mature frame of modern financetheory. Therefore, the behavioral finance appeared and developed. The asset pricing model,which is a kernel problem in behavioral finance, was investigated in two approaches whichare noise trader and investor biases belonged. Nevertheless, the researches based on investorsentiment compared with achievements based on noise trader and investor biases have moreadvantages which some conclusion could be validated empirically and could be supported bymany evidences from behavioral and physiological experiments. Consequently, morebeneficial conclusion may be obtained from the behavioral asset pricing model based oninvestor sentiment. This dissertation intends to investigate the asset pricing model and itsextended problems by using the investor sentiment theory. In principle, there are threecontents of this dissertation:Firstly, this dissertation proposed an optimized procedure for selecting the proxies ofinvestor sentiment, in order to ameliorate some shortcomings during constructing the investorsentiment index in currently literature.The optimized procedure in this dissertation extends the selection for the original proxies,meanwhile eliminates some proxies which are not suitable for describing the sentiment. Thefinal investor sentiment index constructed by this method is more logical. Subsequently, thevalidity for this optimized sentiment index is testified through EGARCH model by adoptingthe real data in Chinese stock market. This optimization research laid a solid foundation forthe theoretical models latterly.Secondly, this dissertation established two sentiment cognitive models and two sentimentequilibrium models for the risky asset based on BSV model and DSSW model, and obtainedthe analytical expressions for the asset price.On one hand, the shortages in BSV model are improved in this dissertation, and aunidirectional sentiment cognitive asset pricing model is proposed based on the consumptionthat there is only one risky asset in the market and the sentiment investors are homogeneous. The analytical expression is obtained subsequently. Furthermore, a bidirectional sentimentcognitive asset pricing model is established and deduced when the consumption is changedthat the sentiment investors are heterogeneous including call sentiment investoes and putsentiment investors. On the other hand, this dissertation investigates how to select portfoliofor investors and ultimately influence the price of risky asset when all of the investors areaffected by sentiment and there is risk-free asset in the market as well as risky asset. Aunidirectional sentiment equilibrium asset pricing model and a bidirectional sentimentequilibrium asset pricing model are constructed respectively, and their analytical expressionsof the price are acquired on the foundation of modifing DSSW model.Thirdly, the investment strategy, exccesive return, sentiment bubbles and negativeexpected return are studied according to the theoretical models proposed in the dissertation,and many profitable conclusions are obtained.An investment strategy is designed according to the sentiment cognitive price model,especially of the unidirectional sentiment cognitive price model. The efficience of thisinvestment strategy is validated by empirical test with the Shanghai composite index and anew market sentiment index constructed by the optimized procedure introduced in thisdissertation. This investment strategy is of strong earning power compared with the Shanghaicomposite index. The solidity of this investment strategy that the setting of initial paremetersin the theoretical model doesn't affect the investment return is proved subsequently byparameters sensitive analysis. Moreover, the numerical simulation and parameter analysisaccording to the bidirectional sentiment cognitive price model verifies the conclusion of manybehavioral finance experiments. When the call sentiment investors gamble with the put, theincrease of their number will lead the average sentiment level to ascend, and ultimately causethe high price.This dissertation analyzes the affect from investor sentiment on the excessive return,bubble and expected return of risky asset according to the sentiment equilibrium price models.The conclusion of research on unidirectional sentiment asset equilibrium price model showsthat: There is positive expected return for risky asset when the sentiment is high, while isnegative when the sentiment is low. However, this conclusion doesn't hold for excessivereturn and bubble. There do is positive excessive return and negative bubble when the sentiment is low, but not vise versa. The result shows that there is negative excessive returnand positive bubble when the sentiment is high and higher than a critical value, while there ispositive excessive return and negative bubble when the sentiment is high but lower than thiscritical value. This conclusion conduced logically is a detailed extension for the existingachievements. The conclusion of research on bidirectional sentiment asset equilibrium pricemodel shows that: There is excessive return when the pessimism level of put sentimentinvestor is stronger than the optimism level of call sentiment investor, but not vise versa.There is excessive return when the optimism level of call sentiment investor is stronger thanthe pessimism level of put sentiment investor but is lower than a critical value. However,there is no excessive return when the optimism level of call sentiment investor is muchstronger than the pessimism level of put sentiment investor meanwhile is higher than thiscritical value. The same critical value of sentiment is obtained in the research on bubble. Thisconclusion is consistent with the analysis of unidirectional sentiment asset equilibrium pricemodel. Lastly, the influence on expected return from bidirectional sentiment level andinvestor numbers is investigated. The result implies that: the expected return is negative whenboth of these two sentiment change toward the same direction. This situation means theaverage level of market sentiment is low, and this conclusion is consistent with theunidirectional sentiment asset equilibrium price model. The positive or negative expectedreturn when these two sentiment change toward different directions depends on the values ofother parameters. The increasing number of call sentiment investors does not necessarily raisethe asset price. The nimiety of these investors may enhance the risk of asset price, so theexpected return of risky asset may be negative. This conclusion is consistent with stock pricebehavior in actual stock market.