Short Selling Bans and Limits to Regulatory Arbitrage in a Multi-Market Setting

Abstract

We evaluate the role of foreign short-sale restrictions in muting the full return-response following negative earnings surprises for stocks cross-listed in unbanned markets. We update the global timeline of short-sale restrictions until the COVID-19 crisis period. Instead of regulatory price arbitrage, we surprisingly observe cross-border reach of bans manifested in a delayed price response, accompanied by a reduction in short interest and failures to deliver. Nonetheless, large profit opportunities result in price arbitrage and full return-response. Analysis of earnings management practices and CEO compensation structure reinforces the role of the profit opportunity in moderating the effects of short-sale restrictions.

Keywords: Market efficiency, post-earnings-announcement drift, short selling, ADRs, regulatory reach, regulatory arbitrage

JEL Classification: G15, G18