RESREARCH

Research Proposal

M. Abdul Salam 5/8/18 Advance Research Method

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Content:

Introduction………………………………………………….02

Problem statement…………………………………………….02

Statement of purpose………………………………………….03

Objectives……………………………………………………03

Literature Review…………………………………………….03-04

Research Questions…………………………………………..04

Theoretical Framework……………………………………….05

Hypothesis…………………………………………………….05

Research Design……………………………………………….06

References……………………………………………………..07

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Impact of investor sentiments on stock market volatility

Introduction

Traditional economic analyses show that people are rational and they do not care for emotions.
But, psychological literature indicates that emotions significantly impact judgment and decision
making in case of decision inculcating risk and uncertainty. Emotions are weighted in determining
the behavior of investors. Emotions are witnessed to influence economic decisions and behavior.
People connect their feelings or mood to wrong sources and make incorrect judgments. Happy
mood pushes people to process information less detailed, less systematically and less energetically.
While in unhappy mood people process information more systematically and carefully. Thus,
when investors be happy they exaggerate value of stock from fundamentals. While in unhappy
mood they deteriorate the value of equity from fundamentals. Simultaneously, in happy and
unhappy mood, they create bullish or bearish market conditions. In result, sentiments affect stock
price volatility and volume of trade. We use status updates on Facebook across 2 countries from
March 2012 to September 2017 to capture the change in sentiments within a country. The status
updates are meaningful about sentiment that are defined by investorwords.com as “a measurement
of the mood of a given investor or the overall investing public, either bullish or bearish.” Because
Facebook’s Data Team records both the daily appearance of positive and negative words in status
updates. So, as per theoretical models predicting that change in sentiments or the mood cause the
trading. We find that change in investors’ sentiment positively affect trading volume and stock
market volatility. Investor sentiment is exogenous variable while stock market volatility is
endogenous variable. Our results indicate the important impact of sentiment with financial market
that is out of the effect of sentiment levels.
Problem statement

Traditional economic system is totally based on production and distribution. This system is lacking
the importance of human sentiments (mood and emotion) during making economic decisions.

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Statement of purpose

The study purpose is to find the relation between investor sentiment (happy mood and unhappy
mood) and stock market volatility (stock price and volume of trade). Sentiments of investors vary
every day. Since, there are investors who are known as market makers and may change market
prices of shares. Investor means both institutional and retail investors. Institutional investors hold
less volume of shares for a certain period while retail investors trade bulk volume of shares
instantly. They keep eagled eye at market sentiments like rising prices and falling prices. And
market sentiments lead to stock market volatility. Ups and downs in the stock market are known
stock market volatility.

Objectives

This study will contribute to the literature of financial behavior by finding the impact of investor
sentiment on stock market volatility. And study will help to find the overall impact of investors’
sentiment on their decisions. It will enhance our understanding of the pattern of stock market
during special events like festivals, sports, cloudy weather and economic news. Simultaneously,
we will consider sentiment factors during pricing of an asset.

Literature Review

Influence of sentiments is perceived as unimportant. Sentiments are viewed as too complex to

evaluate. But, psychological research and sentiment factors are so cemented. As per studies of
(Elster, 1998), and (Hermalin and Isen, 2000) psychological study shows that sentiments
systematically and significantly influence decision-making especially for decisions involving risk
and uncertainty. According to (Loewenstein, 2000), making decisions during emotional
movements drive behavior to become irrational. The study of (Forgas, 1995) suggested that impact
of emotions on the decision making is positively linked with the embedded complexity as well as
uncertainty. Likewise, (Finucane, Peters, and Slovic, 2003) indicated that the most people depend
upon heuristics for the most difficult tasks. Since, (Shiv and Fedorikhin 1999), whenever heart
conflicts with mind, heart often wins. The researcher (Hanoch, 2002) further indicated that when
there is bounded rationality than people often depend upon mood to make satisfactory decision.
(Sinclair and Mark, 1995) claimed that people who remain happy perform less than the people
who remain unhappy in solving the problem and making the decision while becoming more careful

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and processing actively improves performance. According to the study of Siganos, A., Vagenas-
Nanos, E., & Verwijmeren, P. (2017) divergence of sentiment positively influences trading volume
and stock price volatility. Sentiments (Time Preference and Risk Attitude are considered). Time
preference is framing a choice as a delay versus an advance significantly impacts decisions. Risk
attitude affects the price investors are willing to pay for an asset. Study shows that changes in time
preferences can produce significant equity price volatility and shifts in risk attitude bring influence.
In addition, discussed factors are not so much comprehensive to consider the impact of investors’
sentiment on stock market volatility. Still, there is confusion to find the link between sentiments
and stock market volatility. So, we need more studies to find the relation between investors’
sentiment and stock market volatility. There can be other sentiment manipulating factors cloudy
weather, sport events and festivals. These factors trigger investors to get into happiness.

Chang, S. C., Chen, S. S., Chou, R. K., & Lin, Y. H (2008) finds that cloudy weather is connected
to high transaction volumes. Harris, M., & Raviv, A. (1993), who discuss that more divergence of
investors’ sentiments leads to more absolute price fluctuations. So, by linking psychological
research and sentiment factors and introducing sentiment factors into a traditional asset-pricing
model, this investigation shows that sentiment fluctuations have rich importance in economic and
financial analyses. For instance, stock prices correlate with investor sentiments. Higher the positive
mood and higher will be the stock price.

Research Questions

Do investor sentiments affect stock price?

Do investor sentiments affect trading volume?

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Theoretical Framework

STOCK PRICE

INVESTOR
SENTIMENT

TRADING VOLUME

It is assumed that investors are rational. They make decisions involving risk and uncertainty
sensibly. And theoretical framework consists of one independent variable (investor sentiment) and
two dependent variables (stock price and trading volume). The model indicates that Investor
sentiment positively affects stock price and trading volume volatility. Investor sentiment will be
measured by two proxy variables like happy mood and unhappy mood. While, market volatility
will be measured by stock price and trading volume.

Hypothesis

H1: Investor sentiment positively influences stock price.

H2: Investor sentiment positively influences trading volume.

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Research Design/Methodology

We are given with a research purpose that is prolonged discussion and its nature matches to
descriptive studies. So, here we will go with an approach of descriptive study. The purpose of
descriptive research is to depict the complete design of above mentioned situation. And, sample
period would be March 2012 to September 2017. We would download daily optimistic and
pessimistic sentiment data from Facebook that are available for 2 international markets (India and
Singapore). Since, optimistic sentiment level would be signal of investment or buying the stock.
And pessimistic sentiment level would indicate to sell the stock. Facebook would shape these
sentiment indexes by analyzing the percentage of positive and negative status update terms as
defined in the Linguistic Inquiry and Word Count Dictionary. Here, the unit of analysis would be
individual investor and the type of study would be causal study. Statistical Hypothesis Testing
(Pooled t-Test) would be used to perform hypothesis test. Data would be proceeded by Excel.

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References

Elster, J. (1998). Emotions and economic theory. Journal of economic literature, 36(1), 47-74.

Hermalin, B., & Isen, A. (2000). The effect of effect on economic and strategic decision making.

Loewenstein, G. (2000). Emotions in economic theory and economic behavior. American

economic review, 90(2), 426-432.

Forgas, J. P. (1995). Mood and judgment: the affect infusion model (AIM). Psychological bulletin,
117(1), 39.

Finucane, M. L., Peters, E., & Slavic, P. (2003). 1o Judgment and Decision Making: The Dance
of Affect and Reason. Emerging perspectives on judgment and decision research, 327.

Sinclair, R. C., & Mark, M. M. (1995). The effects of mood state on judgmental accuracy:
Processing strategy as a mechanism. Cognition & Emotion, 9(5), 417-438.

Chang, S. C., Chen, S. S., Chou, R. K., & Lin, Y. H. (2008). Weather and intraday patterns in stock
returns and trading activity. Journal of Banking & Finance, 32(9), 1754-1766.

Harris, M., & Raviv, A. (1993). Differences of opinion make a horse race. The Review of Financial
Studies, 6(3), 473-506.

Siganos, A., Vagenas-Nanos, E., & Verwijmeren, P. (2017). Divergence of sentiment and stock
market trading. Journal of Banking & Finance, 78, 130-141.

Created By Abdul Salam