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Do Arbitrageurs Amplify Economic Shocks?

52 Pages Posted: 2 Mar 2007 Last revised: 4 Jun 2011

Harrison G. Hong

Columbia University, Graduate School of Arts and Sciences, Department of Economics; National Bureau of Economic Research (NBER)

Jeffrey D. Kubik

Syracuse University - Department of Economics

Tal Fishman

Princeton University - Bendheim Center for Finance; Princeton University - Department of Economics

Date Written: June 1, 2011

Abstract

We test the hypothesis that arbitrageurs amplify economic shocks in equity markets. The ability of speculators to hold short positions depends on asset values: shorts are often reduced following good news about a stock. Therefore, the prices of highly shorted stocks are excessively sensitive to shocks compared to stocks with little short interest. We confirm this hypothesis using several empirical strategies including two quasi-experiments. In particular, we establish that the price of highly shorted stocks overshoots after good earnings news due to short covering compared to other stocks.

Suggested Citation

Hong, Harrison G. and Kubik, Jeffrey D. and Fishman, Tal, Do Arbitrageurs Amplify Economic Shocks? (June 1, 2011). Available at SSRN: https://ssrn.com/abstract=967751 or http://dx.doi.org/10.2139/ssrn.967751

Harrison G. Hong (Contact Author)

Columbia University, Graduate School of Arts and Sciences, Department of Economics ( email )

420 W. 118th Street
New York, NY 10027
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Jeffrey D. Kubik

Syracuse University - Department of Economics ( email )

426 Eggers Hall
Syracuse, NY 13244-1020
United States
315-443-9063 (Phone)
315-443-1081 (Fax)

Tal Fishman

Princeton University - Bendheim Center for Finance ( email )

26 Prospect Avenue
Princeton, NJ 08540
United States

Princeton University - Department of Economics ( email )

Princeton, NJ 08544-1021
United States

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