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Political Sentiment and Predictable Returns

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  • Jawad M. Addoum
  • Alok Kumar

Abstract

This study shows that shifts in political climate influence stock prices. As the party in power changes, there are systematic changes in the industry-level composition of investor portfolios, which weaken arbitrage forces and generate predictable patterns in industry returns. A trading strategy that attempts to exploit demand-based return predictability generates an annualized risk-adjusted performance of 6% during the 1939 to 2011 period. This evidence of predictability spans 17%27% of the market and is stronger during periods of political transition. Our demand-based predictability pattern is distinct from cash flow-based predictability identified in the recent literature.Received November 15, 2013; accepted April 5, 2016 by Editor Andrew Karolyi.

Suggested Citation

  • Jawad M. Addoum & Alok Kumar, 2016. "Political Sentiment and Predictable Returns," The Review of Financial Studies, Society for Financial Studies, vol. 29(12), pages 3471-3518.
    • Handle: RePEc:oup:rfinst:v:29:y:2016:i:12:p:3471-3518.
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    References listed on IDEAS

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    More about this item

    JEL classification:

    • G02 - Financial Economics - - General - - - Behavioral Finance: Underlying Principles
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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