Measuring Market Sentiment in Hong Kong's Stock Market
Market sentiment is increasingly seen as a key factor driving the movement of asset prices. This paper develops two indicators to measure investors' attitude towards risk in the Hong Kong stock market: a) a risk appetite index and b) an investment sentiment index. We find that although the risk appetite index based on the work of Gai and Vause (2006) is able to capture episodes of extreme optimism and pessimism between 1996 and 2006, it is volatile and in some cases gives spurious signals. Our results also show that the investment sentiment indicator, a sentiment measure derived by combining the current realised return and the expected short-term return of the stock market, has adequate power to predict the subsequent return of the stock market over a period of 6 to 12 months.
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