Equity Short Sales and Options: Complements or Substitutes?
57 Pages Posted: 20 Aug 2015 Last revised: 14 Jan 2017
Date Written: August 19, 2015
Bearish option strategies and short sales can be used to profit from falling stock prices. Regulators have repeatedly banned the latter, fearing it would artificially drive down stock prices during crises. This paper uses the 2011 European Short Sale Bans as well as the temporary suspension of short sale constraints introduced by the U.S. Regulation SHO to test whether bearish option strategies serve as short selling substitutes or complements, and finds that they are substitutes. This in turn has significant consequences for liquidity and volatility in the underlying markets. Short selling constrained stocks with traded options have 50 percent higher volatility and 100 percent higher transaction costs than (un-)constrained stocks without options.
Keywords: Equity Short Sales, Bearish Option Strategies, Financial Market Stability
JEL Classification: G10, G14, G18
Suggested Citation: Suggested Citation