Decomposing the relation between irrational behaviors and beta

This paper investigates the bidirectional relation between irrational behaviors and beta. There are two representative irrational noise trading behaviors, autonomous switching and herding. The panel VAR estimation results suggest a two-way Granger causality. On the one hand, beta Granger-causes irrational behaviors. High-beta assets and low-beta assets attract autonomous switching and herding, respectively. Beta's heterogeneous attractiveness stems from the opinion divergence of investors. On the other hand, herding Granger-causes beta positively. The predictive ability of herding for beta arises since herding repels rational traders. The behavior-beta relation differs in optimistic and pessimistic conditions and persists in the environments generalizable to developed markets.