Investor sentiment in the stock market constitutes a highly appealing field, in the area of modern finance the last years. Many researchers have already attempted to connect the inability of capital market prices as derived from standard Capital Asset Pricing Model to equal the present value of expected future cash flows with the sentiment effect in combination with limits to arbitrage. In order to explain and analyze the sentiment effect, the first thing required, is to fairly measure this factor called “sentiment”. It follows that the second step, is to explain the sentiment effect on current prices by using this measure. Lastly, as can be expected, investor sentiment measure can be effectively used as a tool for prediction of future returns and guidance of trading strategy. Correspondingly to Baker and Wurgler latest analysis on investor sentiment, this thesis discusses possible methods of measuring investor sentiment and deals with the sentiment effects on two different stock categories. Last but not least, it provides an attempt to investigate whether the measured investor sentiment is an appropriate forecast tool for future returns.