Abstract
This article aimed to determine how rational and irrational investor sentiments impact the return and volatility of the Brazilian market. The role of sentiment in financial markets is still a recent, controversial and limited subject, and this study explores this relationship in the Brazilian market. The evidence from this research adds to the limited number of studies on investor sentiment in emerging markets and extends the evidence already documented in Brazil. Our results are expected to have an impact on investors, policymakers and monetary authorities. Investors must be aware of economic fundamentals when formulating their investment strategies and also when choosing the stocks that will make up their portfolios. Policymakers and monetary authorities should take sentiment into account when formulating political, economic and monetary strategies, as economic changes can affect investor psychology and be reflected in their stock market trading. Consumer and business confidence indexes were used as proxies for investor sentiment and were regressed against a set of economic fundamentals to isolate their rational and irrational components. Then, autoregressive vector models were estimated and impulse response functions and variance decompositions were generated to verify the impact of sentiment on the return and volatility of the Ibovespa. There are three main results. First, investor sentiment impacts both returns and volatility in the Brazilian market. Second, economic fundamentals were important determinants of returns and volatility in the Brazilian market, indicating that fundamental trading induced by rational sentiment had a greater effect than trading induced by irrational sentiment. Third, in terms of magnitude, consumer-based sentiment had a greater impact than business-based sentiment.
Keywords:
investor sentiment; stock market; Ibovespa
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Note: (a) Response of Ibovespa returns to rational consumer sentiment; (b) Response of Ibovespa returns to irrational consumer sentiment; (c) Response of Ibovespa returns to rational business sentiment; (d) Response of Ibovespa returns to irrational business sentiment. The red lines in each graph represent the upper and lower 95% confidence bands. When the upper and lower bounds have the same sign, the response is statistically significant. In each graph, "percentage returns" are on the vertical axis and "horizon" is on the horizontal axis.Source: Prepared by the authors.
Note: (a) Ibovespa volatility response to rational consumer sentiment; (b) Ibovespa volatility response to irrational consumer sentiment; (c) Ibovespa volatility response to rational business sentiment; (d) Ibovespa volatility response to irrational business sentiment. The red lines in each graph represent the upper and lower 95% confidence bands. When the upper and lower bounds have the same sign, the response is statistically significant. In each graph, "volatility" is on the vertical axis and "horizon" is on the horizontal axis.Source: Prepared by the authors.
Note: (a) Response of Ibovespa returns to rational consumer sentiment; (b) Response of Ibovespa returns to irrational consumer sentiment; (c) Response of Ibovespa returns to rational business sentiment; (d) Response of Ibovespa returns to irrational business sentiment. The red lines in each graph represent the upper and lower 95% confidence bands. When the upper and lower bounds have the same sign, the response is statistically significant. In each graph, "percentage returns" are on the vertical axis and "horizon" is on the horizontal axis.Source: Prepared by the authors.
Note: (a) Ibovespa volatility response to rational consumer sentiment; (b) Ibovespa volatility response to irrational consumer sentiment; (c) Ibovespa volatility response to rational business sentiment; (d) Ibovespa volatility response to irrational business sentiment. The red lines in each graph represent the upper and lower 95% confidence bands. When the upper and lower bounds have the same sign, the response is statistically significant. In each graph, "volatility" is on the vertical axis and "horizon" is on the horizontal axis.Source: Prepared by the authors.