Asymmetric effect of advertising on the Chinese stock market

ABSTRACT

In this paper, we investigate whether investor attention to advertising has an asymmetric effect on Chinese stock returns by using a multivariate Markov switching model with time-varying regime transition probabilities. Using the Chinese stock market as a setting, we obtain lagged conditional volatility from generalized autoregressive conditional heteroskedasticity (GARCH) for modelling the time-varying transition probabilities of the regime-switching process to capture changes in the market regime. Our evidence documents that the high advertising portfolio does earn higher abnormal return than the low advertising portfolio in low-volatility periods. In high-volatility periods, however, the abnormal return is insignificant when the firm increases advertising spending. Our results support the behavioural model argument that in high-volatility period, advertising information diffuses slowly due to cognitive dissonance. Thus, the effect of advertising on stock returns is asymmetric, and it shows statistical significance in low-volatility periods.

KEYWORDS:

• Multivariate Markov switching model
• asymmetric effect
• advertising
• cognitive dissonance

JEL CLASSIFICATION:

• E32
• G11
• G12

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ In Hong and Stein (1999) model sets two types of investors: ‘newswatchers’ and ‘momentum traders.’ The newswatchers rely on their private information and momentum traders rely on the information in past price trend.

² SHSE was founded on 26 November 1990, and began to operate on 19 December 1990. SZSE was founded on 1 December 1990, and began to operate on 3 July 1991. They both have two types of shares listed, A-shares and B-shares, which are accessible to domestic investors and to foreign investors, respectively. In this study, we mainly focus on A-shares.

³ Beginning in September 2006, the Shanghai Composite index (starting from a level of above 1600) made a steep climb, reaching a peak of more than 6,000 in October 2007, creating an almost 300% return within a little more than a year. However, Shanghai Composite Index then lost 70% of its value during the crash period during November 2007–October 2008. After the crash period, the Shanghai Composite Index returned to growth from February 2015 to April 2016.