Herd Behaviour Myopia: Problems with assessing market rationality on the US stock market based on conventional herding measures.

Abstract: This paper aims to test the presence of herd behaviour in the seemingly rational US stock market by observing the behavioural tendencies at a sectoral-level. A model developed by Chang et al. (2000), where the measurement for herding is the dispersion between individual portfolio returns relative to the market return, is used. The results show evidence of irrational behaviour in six of the ten studied sectors during the time period 1/1/1990 - 22/3/2018. Furthermore, the study identifies two polarizing effects that may be driven by similar herding fundamentals - excessive homogenous dispersion and excessive heterogeneous dispersion. The opposing effects are studied further with the use of a rolling regression. The results from the rolling regression suggest that the effects may cancel each other out when the model is applied to an aggregate market-level. This flaw with the model questions the precision of previous studies conducted on an aggregate market-level, as the results may be misleading or even incorrect.