Margin Trading, Overpricing, and Synchronization Risk

Posted: 13 Apr 2009  

Sanjeev Bhojraj

Cornell University - Samuel Curtis Johnson Graduate School of Management

Robert J. Bloomfield

Cornell University - Samuel Curtis Johnson Graduate School of Management

William B. Tayler

Brigham Young University

Multiple version iconThere are 2 versions of this paper

Date Written: May 2009

Abstract

We provide experimental evidence that relaxing margin restrictions to allow more short selling can exacerbate overpricing, even though it reduces equilibrium price levels. This is because smart-money traders initially profit more by front-running optimistic investor sentiment than by disciplining prices. When short selling is not possible, competitive pressures among arbitrageurs rapidly drive prices to the equilibrium. However, the risk of margin calls slows the convergence process, because arbitrageurs who sell short too early face substantial losses if they are unable to synchronize their trades with other arbitrageurs (as in Abreu and Brunnermeier. 2002. Journal of Financial Economics 66(2-3):341-60; 2003. Econometrica 71(1):173-204).

Keywords: G14, C92

Suggested Citation

Bhojraj, Sanjeev and Bloomfield, Robert J. and Tayler, William B., Margin Trading, Overpricing, and Synchronization Risk (May 2009). The Review of Financial Studies, Vol. 22, Issue 5, pp. 2059-2085, 2009. Available at SSRN: https://ssrn.com/abstract=1376203 or http://dx.doi.org/hhn045

Sanjeev Bhojraj (Contact Author)

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Department of Accounting
Ithaca, NY 14853
United States
607-255-4069 (Phone)
607-254-4590 (Fax)

Robert J. Bloomfield

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

450 Sage Hall
Ithaca, NY 14853
United States
607-255-9407 (Phone)
607-254-4590 (Fax)

William B. Tayler

Brigham Young University ( email )

Brigham Young University
519 TNRB
Provo, UT 84602
United States
(801) 422-5972 (Phone)
(801) 422-0621 (Fax)

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