ORDER IMBALANCE AND ITS INTERACTION WITH RETURNS

Abstract

This thesis examines the role of order imbalance as a proxy for investment sentiment by studying the impact of order imbalance on the relationship between past and present returns for stocks sorted by firm characteristics that may be related to sentiment. These characteristics include firm size, book-to-market ratio, returns volatility and price-to-sales ratio. Our hypothesis is that for stocks which are predominantly speculative, an increase in order imbalance should increase momentum in daily stock returns, while for stocks which are traded for non-speculative (hedging) purposes, an increase in order imbalance should increase the tendency for daily stock returns to reverse themselves. Moreover, momentum effects should be stronger for stocks which are classified as being more sensitive to market sentiment. Thus our research also hopes to provide further empirical insights as to which firm characteristics are good or poor proxies for investment sentiment.