The Impact of Short-selling Threats on Credit Rating Performance and Usage: Evidence from a Natural Experiment

Journal of Business Finance and Accounting, Forthcoming

77 Pages Posted: 10 Apr 2024

See all articles by Mei Cheng

Mei Cheng

University of Arizona - Department of Accounting

Eliza Xia Zhang

University of Washington, Tacoma - Milgard School of Business

Date Written: March 26, 2024

Abstract

Using Regulation SHO as a controlled experiment, we examine the impact of short-selling threats on credit rating performance and credit rating usage in debt contracts. We find that when short-selling constraints are removed for pilot firms, rating accuracy increases, but rating stability decreases for these firms relative to non-pilot firms. This result suggests that short-selling threats push rating agencies to enhance rating accuracy at the cost of rating stability. We also find less rating usage in debt contracts for pilot firms than for non-pilot firms when short-selling constraints are removed for pilot firms, suggesting that in the presence of short-selling threats, debt contracting parties emphasize rating stability over rating accuracy. Overall, our study informs academics, practitioners, and regulators about short sellers’ disciplining effect on rating agencies and provides novel evidence on the rating property trade-off and its implication for rating usage.

Keywords: Short sellers; Credit rating agencies; Credit rating properties; Credit rating accuracy; Credit rating stability; Credit rating usage; Regulation SHO

JEL Classification: G18; G23; G24; G28

Suggested Citation

Cheng, Mei and Zhang, Eliza Xia, The Impact of Short-selling Threats on Credit Rating Performance and Usage: Evidence from a Natural Experiment (March 26, 2024). Journal of Business Finance and Accounting, Forthcoming , Available at SSRN: https://ssrn.com/abstract=3636573

Mei Cheng

University of Arizona - Department of Accounting ( email )

Tucson, AZ 85721
United States

Eliza Xia Zhang (Contact Author)

University of Washington, Tacoma - Milgard School of Business ( email )

1900 Commerce Street
Tacoma, WA 98402-3100
United States

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