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Shaun Williams Davies – University of Colorado Boulder
1 December 2017 @ 10:00 am - 11:30 am
I provide a novel and direct test that shows speculative trades push asset prices away from fundamentals. I form the Speculation Sentiment Index using observable arbitrage trades in levered exchange traded funds (ETFs). Arbitrage activity originates from demand shocks that create relative mispricing between an ETF and its underlying. Because levered ETFs are used by novice traders to speculate on the market, the implicit demand shock is related to speculation. The index captures the direction and magnitude of market-wide speculation sentiment and it predicts aggregate asset return reversals. Furthermore, a trading strategy based on the index earns substantial excess returns.