Investor Sentiment Explanation Essay Example | Topics and Well Written Essays - 1250 words

Investor Sentiment Explanation - Essay Example Closed-end funds can serve as a perfect illustration for limitations of many theoretical assumptions. Concerns of many researchers from US and UK trying to explain closed-end funds, which differ from open-end funds with a fixed limited number of shares on the stock market, deserve serious attention. But before an explanation of closed-end fund phenomena from the behavioral perspective will be given, clear frames of the subject question should be defined. There are some differences and similarities between closed-end funds in the US and the UK. One of the most important differences is much greater participation of institutional investors in the UK market than in the US (Bleaney and Smith 2003, p. 19). Nevertheless the US and the UK markets are more similar than different, that is why we can extend results acquired from one market to another, but with some corrections made. Investor Sentiment Explanation Unlike economic theories trying to explain the closed-end fund puzzle with rational assumptions (e.g. tax liabilities), behavioral theories imply that there is some amount of irrationality on the market. It is called â€Å"noise trader sentiment† — the component of expectations about asset returns not warranted by fundamentals. Basic assumptions of investor sentiment explanations are as follows:some of the investors are not fully rational, and their demand for risky assets is affected by their beliefs or sentiments; arbitrage is risky and therefore limited. However, researchers advise not to fall into opposite extreme: â€Å"It is absolutely not true that introducing a degree of irrationality of some investors into models of financial markets eliminates all discipline and can explain everything†.