Constantin Charles, London School of Economics and Political Science
Pengfei Sui, Chinese University of Hong Kong-Shenzhen
Abstract: We propose a framework in which investors draw on similar past periods when forming their beliefs or deciding on their actions. Motivated by this framework, we construct a measure that assigns weights to past months based on their similarity to today. Using our measure, we construct similarity-based beliefs and show that they can explain return expectations from surveys as well as higher-moment beliefs implied by stock options and the VIX. We also show that similarity can explain the repurchasing decisions of individual investors. Our results show that similarity is a useful principle for understanding beliefs and actions in financial markets.
Abstract: Applying large language models to more than 46 million StockTwits posts, we distinguish messages expressing investors’ own outlook from those describing others’ expected actions and extract sentiment associated with these posts. This yields firm-week measures of own and subjective sentiment. We find that references to others are pervasive and typically more optimistic than investors’ own views. Retail order imbalance increases with own sentiment but decreases with subjective sentiment, indicating contrarian trading against beliefs about others. Subjective sentiment also positively predicts short-horizon returns, especially where contrarian retail trading is strongest, consistent with contrarian liquidity provision slowing price adjustment and generating return continuation.
Discussant: J. Anthony Cookson, Pennsylvania State University
Christian Heyerdahl-Larsen, BI Norwegian Business School
Zeshu Xu, BI Norwegian Business School
Abstract: We show that stock market participants are optimists, while exit coincides with a deterioration in beliefs. Accordingly, belief-cycles drive participation-cycles in our model: Inexperienced cohorts enter with high leverage during episodes of market exuberance and low risk premia and exit during market downturns. In equilibrium, experienced cohorts typically remain participants throughout as the market clearing risk premium tends to gravitate towards their beliefs. These interactions generate procyclical participation, feedback between participation and experience-based learning, and welfare losses. Feeding the model with realized shocks reproduces fluctuations in participation, entry, and exit rates from multiple countries.
