3 capture the sentiment in genuinely local news. Second, we augment our specifications with a daily “global news sentiment index” extracted from the original cross-country sentiment indices, allowing us to control for the tone of news published in the world every day. We find that the effect of local sentiment shocks is still significant and transitory. However, its magnitude is roughly cut in half, peaking around 5 basis points before vanishing after a week. By contrast, global news sentiment shocks have a stronger impact on returns around the world and do not reverse in the short run (i.e. at least 3 weeks). In our sample, sudden changes in optimism (or pessimism) in global news generate a permanent increase (decrease) of 25 basis points - roughly five times the size of the local sentiment shock – that reaches its peak slowly after ten to fifteen days, both in Advanced Economies (AEs) and in Emerging Markets (EMs).

Finally, we extend our analysis to international equity flows. Using daily equity flows from a very large number of international equity mutual funds investing in sixteen EMs between 2007 and 2015, we explore the response of capital flows to both local and global news sentiment shocks. Overall, we find a very similar response to that of stock returns: although local news optimism attracts equity fund flows for a few days only, global sentiment optimism generates a permanent equity inflow peaking after two weeks. Using the official domicile of each fund as a proxy for the location of investors, we then contrast the response of local and foreign equity funds. Although funds located outside the country respond strongly to news sentiment, the response from local funds is muted, suggesting that news tone affects prices mostly through its impact on foreign investors’ sentiment.

We close the paper by investigating further the properties of global news sentiment. We report three interesting findings. First, the effect of global news sentiment is state-dependent: the impact of global news sentiment is four times stronger in global “bear” markets than in global “bull” markets, suggesting that investors are more sensitive to news tone during global market downturns. Second, we find that the global news sentiment index explains more of the variance in equity returns across the world than other typical measures of global risk aversion, such as the VIX. Although VIX shocks have a stronger impact on equity markets around the world, they are also much less frequent than shocks captured by the global news sentiment index, which arguably captures a much broader set of events than the VIX, especially when it comes to periods of global market optimism. Finally, we investigate the kind of news that drive sudden changes in global news sentiment. In general, global news sentiment is driven by multi-country news, which are broader, longer and with a stronger tonality than local news articles. However, the content of those news varies significantly with the direction of the global news sentiment index: when the global news sentiment index is strongly positive, the corpus of news in the world tilts towards positive financial and corporate news in advanced AEs, especially in the US. By contrast, the coverage tilts strongly towards economic and political news in EMs when the global news sentiment index goes into negative territory, suggesting that the drivers of global market rallies differ from those of global sell-offs.