Holding on to Your Shorts: When Do Short Sellers Retreat?
Pavel G. Savor
University of Pennsylvania - Finance Department
Harvard University; AQR Capital Management, LLC
March 28, 2011
This paper studies the response of arbitrageurs to adverse price shocks. We focus on short sellers and find that they cover their positions after suffering losses and increase them after experiencing gains. While this relationship is very strong for positions established due to perceived overvaluation, it does not hold for arbitrage trades, where the investor is hedged against stock price movements. Finally, expected returns do not explain the documented behavior, with short sellers actually losing money by closing their positions in response to losses. We interpret these results as evidence that even sophisticated investors cannot or are not willing to maintain positions after adverse market movements, making arbitrage less effective in moving prices towards their fundamental value.
Number of Pages in PDF File: 46
Keywords: Short Selling, Limits to Arbitrage, Arbitrageurs
JEL Classification: G12, G14working papers series
Date posted: April 15, 2005 ; Last revised: December 13, 2011
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