An Idea of the Impact of Sentiment and Attention Measures on Stock Market Volatility

When we invest in the stock market, it involves a lot of factors and facts that should be known to the investor. Investment and portfolio diversification, investment quality, temperament, and emotional ties of the investor are some key factors. Over the past few decades, numerous scholars have studied and examined irrational sentiments that influence market decisions. Irrational settlements are investors’ expectations about the investment returns and investment risks. It is not actual science as emotions drive it. To better understand the article, it is worth mentioning that investor sentiment can be a crucial factor affecting the volatility of prices and returns of various securities.

VOLATILITY

In the stock market, shares’ value flicker. The degree it flickers around its mean price is termed volatility. It is a crucial variable for evaluating costs. The risk associated with security is directly proportional to the volatility. In contrast, the period length of investment is inversely proportional to its effect on the overall performance of an extended portfolio. 

NATIONAL STOCK EXCHANGE OF INDIA (NSE)

The National Stock Exchange of India represents the Indian stock market. The volatility Index is the volatility indicator in the NSE. It is abbreviated as VIX. VIX is a result of the degree of volatility caused due to the expectation of fluctuation traders over the next 30 days in the Nifty50 Index. It helps investors understand if their competitors feel fearful or satisfied with the NSE. 

IMPACT OF INVESTOR IRRATIONAL SENTIMENT

A collection of analyses on the impact of irrational investor sentiment shows that the sentiment index influences market excess returns exponentially. An asymmetric relationship is found when it becomes positive sentiment and negative sentiment.

The positive sentiment index positively influences the market excess return, and the negative sentiment index negatively influences the market excess return. These findings show that when investors are more enthusiastic about the market, they get a higher excess return. Their over-enthusiasm pushes them to speculate and invest more than they had initially planned. This leads to the investor losing when the sentiment goes bearish.

IMPACT OF IRRATIONAL SENTIMENTS ON NSE

Empirical findings of Rajendra N. Paramanik and Vatsal Singhal state that negative sentiment is more profound than positive sentiment. Their experiment validates the existence of noise traders in the NSE. The findings of this experiment are crucial since the dominance of noise traders in the NSE market makes rethinking the strategies for the majority of rational investors necessary. Market fundamentals are no longer decisive since irrational enthusiasm moulds the market’s volatility. This reflects the immaturity of the players involved in NSE.

RELATIONSHIP BETWEEN VOLATILITY IN STOCK MARKET AND IRRATIONAL SENTIMENTS

Investor sentiment and volatility are factors affecting each other. The dependency between them is explained by experts, giving rise to multiple conclusions. Their connection is negative, as high sentiment tends to raise the prices beyond their fundamental values. This will be followed by corrective price movement. 

On the other hand, experiment results have shown that when severe fluctuations occur in the market, irrational sentiments among the investors lead the stock market in the opposite direction.

SENSEX

Sensex is a combination of sensitivity and index. It is a benchmark index of the NSE. It reflects the movement of the NSE. This means that the value of Sensex goes up when there is an increase in the value of shares in the NSE. Similarly, a decline in the value of Sensex indicates a general decrease in the value of the claim in the NSE. Emotional and irrational sentiments like greed reflect on the NSE, directly reflected in the Sensex. 

SENSEX, NSE, AND VOLATILITY

A study conducted by Snehal Bandivadekar and Saurabh Ghosh revealed that the volatility in Sensex has declined after the introduction of index futures. Index futures are agreements conditioned to buy or sell an index at a price today, which would be settled on a future date. There are two causes for the decline in volatility. It is a function of derivative products and some market-wide factors. Market-wide factors can be controlled using specific surrogate indices. The environment is a dynamic concept and does not remain the same. Hence, changes in the NSE market environment have been observed since the 2000s. A decline follows this in volatility.

STUDIES, DISCOVERIES AND CONCLUSIONS

Most of the literature studies have pointed to a negative linear relationship between investor sentiment and stock return using linear models, although some disagree. As time has progressed, evolution has led to modern-day experts studying the non-linear relationship between volatility and investor sentiment. One such discovery is stated below:

Beaumont et al. stated that investor sentiment has a crucial asymmetric impact on stock returns. When a bearish player enters the market, a peculiar phenomenon takes place. The Create Space Effect prevails over the Friedman Effect, and when a bullish player enters the market, the Friedman effect prevails over the Create Space effect.