1 Can Sentiment be predicted to have Cross-Sectional Effects?

Previous research suggests that sentiment has incremental explanatory power for returns and conditional volatility of stocks. When sentiment-based demands vary across stocks, to what extent then is sentiment responsible for the observed cross sectional patterns in stock re-turns? Assuming that sentiment correlates with contemporaneous returns of particular cate-gories of stocks, subsequent cross-sectional variation in stock returns is assumed to represent corrections of the initial mispricing. Therefore, this paper investigates if sentiment can be predicted to have cross-sectional effects. We find that when investors are bullish, next peri-ods returns are relatively high for growth stocks, small cap stocks, highly leveraged firms, low volatility stocks and profitable stocks. Results are consistent with economic intuition and in line with most of the empirical literature