Investors’ Irrational Sentiment and Stock Market Returns: A Quantile Regression Approach Using Indian Data

Studying sentiment is crucial for investors and portfolio managers to determine whether sentiment can be used as information to make profits. This study examines the relationship between irrational sentiment among investors and excess returns in the Indian stock market using monthly data from July 2001 to December 2019. The study constructs a composite sentiment index that includes condensed information from 10 variables. The empirical analysis reveals that the influence of irrational sentiment among investors on excess returns in the stock market is not uniform across quantiles. Specifically, our results indicate that the irrational sentiment index has information regarding contemporaneous (future) variation in excess returns in upper (all) quantiles. Results also suggest that the predictive ability of irrational sentiment is enhanced when market conditions are right. We also decompose the sentiment into positive and negative irrational sentiment and find an asymmetrical impact in upper quantiles but lost at lower quantiles.