Dynamic Equilibrium with Costly Short-Selling and Lending Market

62 Pages Posted: 3 Feb 2020 Last revised: 14 Jun 2022

See all articles by Adem Atmaz

Adem Atmaz

Purdue University - Krannert School of Management

Suleyman Basak

London Business School; Centre for Economic Policy Research (CEPR)

Fangcheng Ruan

Purdue University - Krannert School of Management

Date Written: December 9, 2019

Abstract

We develop a dynamic model of costly stock short-selling and lending market and obtain implications that simultaneously support many empirical regularities related to short-selling. In our model, investors’ belief disagreement leads to shorting demand, whereby short-sellers pay shorting fees to borrow stocks from lenders. Our main novel results are as follows. Short interest is positively related to shorting fee and predicts stock returns negatively. Higher short-selling risk can be associated with lower stock returns and less short-selling activity. Stock volatility is increased under costly short-selling. An application to GameStop episode yields implications consistent with observed patterns.

Keywords: Short-selling, stock lending, belief disagreement, shorting fee, short interest, predictive power, volatility, short-selling risk, GameStop

JEL Classification: G11, G12

Suggested Citation

Atmaz, Adem and Basak, Suleyman and Ruan, Fangcheng, Dynamic Equilibrium with Costly Short-Selling and Lending Market (December 9, 2019). Available at SSRN: https://ssrn.com/abstract=3516969 or http://dx.doi.org/10.2139/ssrn.3516969

Adem Atmaz (Contact Author)

Purdue University - Krannert School of Management ( email )

403 West State Street
West Lafayette, IN 47907
United States

HOME PAGE: http://www.aatmaz.com

Suleyman Basak

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom
44 (0)20 7000 8256 (Phone)
44 (0)20 7000 8201 (Fax)

HOME PAGE: http://www.suleymanbasak.com

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Fangcheng Ruan

Purdue University - Krannert School of Management ( email )

1310 Krannert Building
West Lafayette, IN 47907-1310
United States

HOME PAGE: http://sites.google.com/view/ruanfangcheng/home

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