Momentum in Security Returns and Investor Behavior : Evidence from Sri Lanka

This paper examines the validity of the behavioral explanations of the momentum effect. Although, the momentum effect seems to be captured by the risk based asset pricing models, there are behavioral explanations given for the existence of the momentum effect. Barberis, Shleifer and Vishny (BSV) (1998) and Daniel, Hirshleifer and Subrahmanyam (DHS) (1998) are the two most logical behavioral explanations for the existence of the momentum effect. However, it is difficult to reach any conclusion regarding the validity of theses behavioral explanations without testing them in real markets. This study introduces an event based method to test empirical validity of the behavioral explanations of the momentum effect. By applying the event based method in the Colombo Stock Exchange over the period from 2005 to 2013, it is found that investors’ conservative behavior suggested by BSV (1998) seems to be contributed to the momentum effect in the Colombo Stock Exchange. However, overreaction hypothesis of DHS (1998) has been rejected