Failure is an Option: Impediments to Short Selling and Options Prices

Posted: 13 Apr 2009

See all articles by Richard B. Evans

Richard B. Evans

University of Virginia - Darden School of Business

Christopher Geczy

University of Pennsylvania - The Wharton School, Finance Department

David K. Musto

University of Pennsylvania - Finance Department

Adam V. Reed

University of North Carolina Kenan-Flagler Business School

Multiple version iconThere are 2 versions of this paper

Date Written: May 2009

Abstract

Regulations allow market makers to short sell without borrowing stock, and the transactions of a major options market maker show that in most hard-to-borrow situations, it chooses not to borrow and instead fails to deliver stock to its buyers. A part of the value of failing passes through to options prices: when failing is cheaper than borrowing, the relation between borrowing costs and options prices is significantly weaker. The remaining value is profit to the market maker, and its ability to profit despite competition between market makers appears to result from the cost advantage of larger market makers.

Keywords: G12, G13, G29

Suggested Citation

Evans, Richard B. and Geczy, Christopher Charles and Musto, David K. and Reed, Adam V., Failure is an Option: Impediments to Short Selling and Options Prices (May 2009). The Review of Financial Studies, Vol. 22, Issue 5, pp. 1955-1980, 2009. Available at SSRN: https://ssrn.com/abstract=1376200 or http://dx.doi.org/hhm083

Richard B. Evans (Contact Author)

University of Virginia - Darden School of Business ( email )

P.O. Box 6550
Charlottesville, VA 22906-6550
United States
434-924-4030 (Phone)
434-243-7680 (Fax)

HOME PAGE: http://faculty.darden.virginia.edu/evansr/

Christopher Charles Geczy

University of Pennsylvania - The Wharton School, Finance Department ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States
(215) 898-1698 (Phone)
(215) 898-6200 (Fax)

David K. Musto

University of Pennsylvania - Finance Department ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States

Adam V. Reed

University of North Carolina Kenan-Flagler Business School ( email )

Kenan-Flagler Business School
Chapel Hill, NC 27599-3490
United States

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