Investor sentiment and stock market anomalies: Evidence from Islamic countries

Studies of the Ramadan effect argue that higher stock returns in Muslim countries during Ramadan relate to higher investor sentiment. However, Islamic countries rank low on the Hofstede Individualism Index, a proxy for investor overconfidence. Therefore, this study examines the impact of investor sentiment on stock market anomalies in two advanced Islamic finance jurisdictions: Malaysia and Indonesia. It hypothesizes that stock market anomalies are stronger following high sentiment if investors in Malaysia and Indonesia are overconfident. The results show that the long and short legs of the stock market anomalies earn relatively low returns following high investor sentiment, indicating overpricing during high sentiment. Moreover, the short leg earns relatively lower returns than the long leg following high sentiment because the short leg is more overpriced than the long leg when sentiment is high. Therefore, consistent with the hypothesis, the long-short returns of anomalies are stronger following high investor sentiment because of the relatively lower returns of the short leg than the long leg.