Short Selling Efficiency

56 Pages Posted: 15 Jun 2020 Last revised: 20 Jul 2021

See all articles by Yong Chen

Yong Chen

Texas A&M University - Department of Finance

Zhi Da

University of Notre Dame - Mendoza College of Business

Dayong Huang

University of North Carolina (UNC) at Greensboro - Bryan School of Business & Economics

Date Written: July 16, 2020

Abstract

Short selling efficiency (SSE), measured each month by the slope coefficient of cross-sectionally regressing abnormal short interest on a mispricing score, significantly and negatively predicts stock market returns both in-sample and out-of-sample, suggesting that mispricing gets corrected after short sales are executed on the right stocks. We show conceptually and empirically that SSE has favorable predictive ability over aggregate short interest, as SSE reduces the effect of noises in short interest and better captures the amount of aggregate short selling capital devoted to overpricing. The predictive power is stronger during the periods of recession, high volatility, and low public information. In addition, low SSE precedes the months when the CAPM performs well and signals efficient market. Overall, our evidence highlights the importance of the disposition of short sales in stock markets.

Keywords: Short Selling Efficiency, Return Predictability, Mispricing, Market Efficiency

JEL Classification: G11, G23

Suggested Citation

Chen, Yong and Da, Zhi and Huang, Dayong, Short Selling Efficiency (July 16, 2020). Journal of Financial Economics (JFE), Forthcoming, Available at SSRN: https://ssrn.com/abstract=3600370 or http://dx.doi.org/10.2139/ssrn.3600370

Yong Chen (Contact Author)

Texas A&M University - Department of Finance ( email )

360 Wehner Building
College Station, TX 77843-4218
United States

HOME PAGE: http://mays.tamu.edu/directory/ychen/

Zhi Da

University of Notre Dame - Mendoza College of Business ( email )

Notre Dame, IN 46556-5646
United States

Dayong Huang

University of North Carolina (UNC) at Greensboro - Bryan School of Business & Economics ( email )

401 Bryan Building
Greensboro, NC 27402-6179
United States

HOME PAGE: http://sites.google.com/a/uncg.edu/dayong-huang/

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