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In Short Supply: Short Sellers and Stock Returns

Last Updated on 10 February, 2024 by Rejaul Karim

The thought-provoking research paper “In Short Supply: Short Sellers and Stock Returns” offers a comprehensive exploration of the intricate relationship between short-sale supply and future stock returns.

Authored by Messod D. Beneish, Charles M.C. Lee, and Craig Nichols, the paper delves into the economic determinants of short-sale supply, shedding light on its consequences for stock returns. Through empirical analysis, the authors reveal that lendable supply is influenced by expected borrowing costs and financial statement constructs that indicate overvaluation.

The revelation that shares are least available when most attractive to short sellers adds a layer of complexity to the study’s findings. Moreover, the paper introduces insightful instruments for real-time loan supply and demand conditions in the lending market, ultimately highlighting the pivotal role of lendable shares in equity price formation and returns prediction.

Abstract Of Paper

We examine the economic determinants of short-sale supply, and its consequences for future stock returns. Lendable supply increases with expected borrowing costs and decreases with financial statement constructs that indicate overvaluation. Although rising loan fees help ease supply, we find shares are still least available when they are most attractive to short sellers. Using a number of firm characteristics, we derive useful instruments for real-time loan supply and demand conditions in the lending market. Further, we show that (1) when lendable supply is binding (non-binding), short-sale supply (demand) is the main predictor of future stock returns, (2) abnormal returns to the short-side of nine well-known market anomalies are attributable solely to “special” stocks, and (3) loan fees significantly reduce the profitability of the short side and several of these anomalies cease to be profitable. Overall our evidence highlights the central role played by the supply of lendable shares in equity price formation and returns prediction.

Original paper – Download PDF

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Author

Messod D. Beneish
Indiana University – Kelley School of Business – Department of Accounting

Charles M.C. Lee
Foster School of Business, University of Washington; Stanford University – Graduate School of Business

Craig Nichols
Syracuse University

Conclusion

In conclusion, Messod D. Beneish, Charles M.C. Lee, and Craig Nichols’s insightful study “In Short Supply: Short Sellers and Stock Returns” provides a comprehensive understanding of the complex dynamics between short-sale supply and future stock returns.

The authors’ empirical analysis uncovers significant economic determinants of lendable supply, emphasizing its sensitivity to expected borrowing costs and financial statement constructs indicating overvaluation. The revelation that shares are least available when most attractive to short sellers adds a layer of depth to the study’s findings.

Additionally, the introduction of practical instruments for real-time loan supply and demand conditions enriches the understanding of equity price formation and returns prediction.

The study’s findings underscore the pivotal role played by the supply of lendable shares in shaping market efficiency and returns prediction, marking a significant stride in the comprehension of short selling and its implications for stock returns.

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FAQ

What is the main focus of the research paper “In Short Supply: Short Sellers and Stock Returns”?

The main focus of the research paper is to examine the economic determinants of short-sale supply and explore the consequences of short-sale supply for future stock returns. The authors investigate factors influencing lendable supply, such as expected borrowing costs and financial statement constructs indicating overvaluation. The paper aims to shed light on the relationship between short-sale supply and stock returns.

What are the key findings regarding lendable supply and its determinants?

The paper finds that lendable supply increases with expected borrowing costs and decreases with financial statement constructs that indicate overvaluation. It highlights the sensitivity of lendable supply to economic factors and provides insights into the conditions under which shares become more or less available for short sellers.

What is the significance of the revelation that shares are least available when most attractive to short sellers?

The revelation that shares are least available when most attractive to short sellers adds complexity to the study’s findings. It suggests that even when shares are highly desirable for short selling, their availability is constrained. This finding underscores the challenges faced by short sellers in accessing shares of stocks that are potentially overvalued.

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