Biased information weight processing in stock markets

Mohrschladt H, Langer T


Abstract
The concepts of over- and underreaction are frequently used in behavioral financial research to explain investor behavior and resulting market phenomena. This research often makes arbitrary assumptions about which of the two biases is prevalent in a specific situation although psychological research offers more explicit insights. Investors overreact towards information of low weight and underreact if the information has high weight (high reliability). We propose a model that transfers these experimental findings to a financial market setting. Our time-series and cross-sectional empirical analyses support the hypothesis that investors misperceive information weight, which leads to short-term predictability in returns.

Keywords
Behavioral finance; Investor behavior; Information weight; Behavioral asset pricing; Market return predictability; Cross-sectional return predictability



Publication type
Research article (journal)

Peer reviewed
Yes

Publication status
Published

Year
2020

Journal
Journal of Empirical Finance

Volume
57

Start page
89

End page
106

Language
English

ISSN
0927-5398

DOI