Abstract: Low participation, irrational investment, and high volatility of stock prices are considered to be typical in China stock market. According to the abovementioned stylized facts, we describe a attentional contagion mechanism underlying the inflow of new investors in a simple asset pricing model and find that that investor attention plays a dual role in the formation of asset prices. On one hand, the limited attention of investors causes the under-reaction to information and price momentum. On the other hand, the attentive investors induce the inexperienced positive-feedback investors to participate the market, which brings about return reversal. As a result, the introduction of attentional contagion mechanism explains the co-existence of momentum and reversal, which sheds light on the understanding of the seperated pricing effects of investor attention on developed and emerging stock markets around the world.

Key words: investor attention, social contagion, limited market participation, momentum, reversal