The asymmetric effects of investor sentiment and monetary policy on stock prices

Abstract

We examine the impact of investor sentiment and monetary policy on the stock prices under different market states based on the Markov-switching vector autoregression (MS-VAR) model. The results show that the sentiment shocks, more than monetary policy shocks, lead to not only much larger fluctuations of stock prices but also much longer duration in the stock market downturn than in the stock market expansion, which shows obvious asymmetric effect. Moreover, the responses of stock prices to the sentiment shocks present an immediate effect, while the responses of stock prices to the monetary policy shocks show one-period lag effect.

Keywords:

• investor sentiment
• monetary policy
• MS-VAR model
• asymmetric effect

JEL Classification:

• G12
• G14

Notes

¹ In 1996, the People’s Bank of China put the money supply as the intermediate target of monetary policy. And it began publishing three levels of money supply: M0 (cash in circulation), M1 (narrow money) and M2 (broad money).

Additional information

Funding

This work was supported by the Fundamental Research Funds for the Central Universities [grant number 20148DXMPY03], the Doctoral Fund of Ministry of Education of China [grant number 20120172110040], the National Natural Science Foundation of China [grant number 71461067] and the Major Program of National Social Science Foundation of China [grant number 11&ZD156].