Ownership Structure , Limits to Arbitrage and Stock Returns: Evidence from Equity Lending Markets

Abstract

We examine how institutional ownership structure gives rise to limits to arbitrage through its impact on short-sale constraints. Stocks with lower, more concentrated, short-term, and less passive ownership exhibit lower lending supply, higher costs of shorting, and higher arbitrage risk. These constraints limit the ability of arbitrageurs to take short positions and delay the correction of mispricing. Stocks with more concentrated ownership exhibit smaller announcement day reactions, larger post-earnings announcement drift, and an additional negative abnormal return of -0.47% in the week following a positive shorting demand shock.

Keywords: Limits to Arbitrage, Equity Lending Markets, Short Selling, Ownership Structure, Arbitrage Risk

JEL Classification: G10, G12, G14