Cross-Section Excess Returns : Risk Factors and Investor Sentiment

This paper examines competing explanations, based on risk and investor sentiment, for the cross-sectional returns in the Tunisian stock market. First, we examine the explanatory power of Fama and French (1993); and Carhart (1997) risk factors in the cross-section of stock returns. We find evidence for pervasive market and size factors; the value and momentum factors are verified respectively for high book-to-market equity ratio portfolios and winners' portfolios. Then, we investigate the relation between institutional investor sentiment and size portfolio returns. The empirical results indicate a significant effect of sentiment measures on returns and significant effect of returns on change in sentiment. Finally, we document that the addition of sentiment investor to the pricing model dramatically decreases the magnitude of the market factor. Moreover, the size effect is no longer significant.