Did Financial Markets Overreact to COVID-19?

Abstract

Prior studies have shown that the COVID-19 pandemic has led to negative returns and increased volatilities in various financial markets. Not many however have sought to investigate why. With anecdotal evidence pointing to investors earning abnormal returns despite the pandemic, this paper sought to determine whether markets – for whatever reason – were overreacting to the pandemic. Using a sample of the largest 3,000 companies across 15 countries, we found evidence that markets were overreacting to various COVID-19 events. Specifically, we found that markets showed strong signs of reversal in response to negative events (e.g. lockdowns, confirmed cases, deaths). Positive events (e.g. vaccine development, recoveries) did not elicit a similar response. Our results suggest that the volatilities and negative returns during the sample period may be driven by non-COVID factors. This will have profound implications for future COVID-financial markets research and government policy as it redirects attention to individual countries rather than adopting a “global” approach to research or policy-setting.