Asymmetric Impact Of Rational And Irrational Investor Sentiment On Stock Market Tail Risk

The development of financial markets is often accompanied by the occurrence of financial crisis.The frequent occurrence of financial crisis has not only caused serious damage to investors,but also frequently hit financial markets and the world economy.Therefore,how to effectively prevent tail risk has become a hot research topic in recent years.In the framework of behavior finance theory,the role of investor sentiment in asset pricing has been seen.Therefore,the discussion of the interaction among rational investor sentiment,irrational investor sentiment and tail risk will help us to prevent tail risk.This paper draws on the ideas of Baker & Wurgler(2006)and Hu Changsheng & Chi Yangchun(2012)to construct the rational investor sentiment index,representing “smart money”,and the irrational investor sentiment index,representing “dumb money”.This paper also constructed a monthly time-varying tail risk index from the idea of Kelly & Jiang(2014)and then used the TVP-SV-VAR model to study the time-varying relationship among irrational investor sentiment,rational investor sentiment,and tail risk.This research can help us to understand the tail risk.The results show that,first of all,the impact of rational and irrational investor sentiment on tail risk is time-varying,and both of them will promote tail risk.This shows that not only the irrational investors will increase market volatility,but the rational investors did not play a role in decreasing stock market volatility.Second,the impact of rational and irrational investor sentiment on tail risk is asymmetric in bull and bear markets.Specifically,compared with the bear market,the irrational investor sentiment has greater impact on the tail risk during the bull period,and the effect is more sustained.And the rational investor sentiment has smaller impact on the tail risk during the bull period compared with bear period.However,this asymmetry effect of rational investor sentiment only existed before 2012.After 2012,the impact of rational sentiment on tail risk increased.