Is overreaction an explanation for the value effect? A study using implied volatility from option prices

Many empirical studies document the value effect. One explanation is that investors overreact to growth aspects for growth stocks. We apply Stein's (1989) method to investigate whether the degree of overreaction differs between value and growth stocks using the implied volatility from option prices. A finding of overreaction for either value stocks or growth stocks would lend support to overreaction as an explanation for the value effect. Empirical results here indicate a stronger degree of overreaction for growth stocks.