Short Selling and Excess Return Correlation

29 Pages Posted: 30 Oct 2017 Last revised: 18 Dec 2017

See all articles by Marco Valerio Geraci

Marco Valerio Geraci

University of Cambridge - Cambridge-INET Institute

Jean-Yves Gnabo

Facult├ęs Universitaires Notre-Dame de la Paix (FUNDP)

David Veredas

Vlerick Business School

Multiple version iconThere are 2 versions of this paper

Date Written: December 3, 2017

Abstract

We show that the number of common short sellers shorting two stocks can predict their four-factor excess return correlation one month ahead, controlling for many pair characteristics, including similarities in size, book-to-market, and momentum. We verify that this result holds out-of-sample and show that it can be used to establish a trading strategy that yields positive cumulative returns over 12 months. We explore the possible mechanisms that could give rise to this relationship. We find that neither the price-impact mechanism nor the liquidity-provision mechanism can explain the uncovered relationship. Rather, it seems that the relationship is due to informed short selling, which we identify using several indicators of value obtained from financial statement analyses.

Keywords: short selling, correlation, informed trading

JEL Classification: G14

Suggested Citation

Geraci, Marco Valerio and Gnabo, Jean-Yves and Veredas, David, Short Selling and Excess Return Correlation (December 3, 2017). Available at SSRN: https://ssrn.com/abstract=3061152 or http://dx.doi.org/10.2139/ssrn.3061152

Marco Valerio Geraci (Contact Author)

University of Cambridge - Cambridge-INET Institute ( email )

Sidgwick Avenue
Cambridge, CB3 9DD
United Kingdom

Jean-Yves Gnabo

Facult├ęs Universitaires Notre-Dame de la Paix (FUNDP) ( email )

Rempart de la Vierge, 8
Namur B-5000
Belgium

David Veredas

Vlerick Business School ( email )

Library
REEP 1
Gent, BE-9000
Belgium

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