Shackling Short Sellers
Shackling Short Sellers
Ekkehart Boehmer
J
Charles M. Jones
Xiaoyan Zhang
Shackling Short Sellers: Boehmer, Jones, and Zhang
1
Q-Group Spring 2010 Seminar
Short sellers: heroes or villains?
„
Are short sellers able to identify overvalued stocks, helping them get to the “right” price?
„
Do they help pop bubbles or keep them from Do
they help pop bubbles or keep them from
forming?
„
Or can they sometimes drive prices below fundamental value?
Th
The answer should guide our policy choices.
h ld id
li
h i
Shackling Short Sellers: Boehmer, Jones, and Zhang
2
Q-Group Spring 2010 Seminar
Shorts are always blamed for crashes
New York Times, 4 Oct 1931, p. 129.
,
,p
Shackling Short Sellers: Boehmer, Jones, and Zhang
3
Q-Group Spring 2010 Seminar
New York Times, 26 Oct 1931
Shackling Short Sellers: Boehmer, Jones, and Zhang
4
Q-Group Spring 2010 Seminar
US stock prices 1927-1938
35
Shorting gradually moves underground
30
NYSE bans shorting for
2 days
d
as England
E l d
abandons gold standard
SEC introduces
uptick rule
20
q
written authorization
NYSE requires
to lend a customer’s shares
15
Political pressure to
rein in or ban shorting
NYSE prohibits short
sales on downticks
Shackling Short Sellers: Boehmer, Jones, and Zhang
5
38
19
37
19
36
19
19
33
19
32
19
31
19
30
19
29
19
28
19
27
0
35
US Senate releases list of
biggest short sellers
34
5
19
10
19
Stock
k Price Level
25
Q-Group Spring 2010 Seminar
Role of short‐sellers: theory
„
Difference in beliefs
‰ E. Miller (1977), Harrison and Kreps (1978), Duffie, Garleanu, E Miller (1977) Harrison and Kreps (1978) Duffie Garleanu
and Pedersen (2002)
„ When shorting is prohibited, only optimists hold stocks and stocks are overvalued
stocks are overvalued.
„
Rational expectations
‰ Diamond and Verrecchia (1987)
(
)
„ When shorting is restricted/prohibited, stock prices are unbiased, but prices adjust slower to negative information.
„
Manipulative shorting
‰ Goldstein and Guembel (2008)
‰ Khanna and Mathews (2009)
Shackling Short Sellers: Boehmer, Jones, and Zhang
6
Q-Group Spring 2010 Seminar
Role of short‐sellers: empirics
„
Uniform results: prices are more efficient with short sellers. „
Miller (1977): when shorts are restricted, stocks are overvalued.
‰ Jones and Lamont (2002)
‰ Lamont and Thaler (2003)
(
)
„
Diamond and Verrecchia (1987): when shorts are restricted, adjustment to negative information is slower.
adjustment to negative information is slower.
‰ Bris, Goetzmann, and Zhu (2007)
‰ Reed (2007)
„
Diamond and Verrecchia (1987): short‐sellers are more informed.
‰ Dechow, Hutton, Meulbroek and Sloan (2001)
‰ Boehmer, Jones and Zhang (2008)
Shackling Short Sellers: Boehmer, Jones, and Zhang
7
Q-Group Spring 2010 Seminar
Short selling in the US before 2008
„
Short selling is wide spread in US before the short ban
g
p
‰ In late 2007, approximately 40% of trading volume involves a short seller. ‰ Most of the short‐selling comes from institutional investors (mainly via hedge funds) and proprietary trading desks.
g
„
As part of Regulation SHO, the SEC removed the uptick rule for all firms in July 2007
‰ Boehmer, Jones and Zhang (2009)
Shackling Short Sellers: Boehmer, Jones, and Zhang
8
Q-Group Spring 2010 Seminar
Shorting regulation changes in 2008
„
March: Bear Stearns collapses
„
July 21: SEC emergency order bans naked shorting for 30 days in 19 financial firms.
„
Sep 15: Lehman files for bankruptcy
Sep 16: AIG bailout
Sep 17: Financial firms drop sharply (MS falls 25%)
Sep 18: SEC bans all naked shorting, UK FSA bans all shorting in financial stocks
shorting in financial stocks.
Sep 19: SEC emergency order temporarily bans all shorting in 797 financial stocks .
„
„
„
„
Shackling Short Sellers: Boehmer, Jones, and Zhang
9
Q-Group Spring 2010 Seminar
Why the restrictions?
All the empirical evidence says shorting restrictions cause prices to be wrong.
g
To defend the new restrictions, something must be different in 2008:
„
Maybe short sellers are now manipulators, driving prices below y
p
gp
fundamental value.
„
Maybe the manipulative “bear raids” are a particular threat for financials due to multiple equilibria
i a ia
ue o u ip e equi i ia (a
(a Diamond‐Dybvig
ia o
y ig bank run).
a
u )
„
Maybe this is one time when we need stocks to be overvalued (due to systemic risk).
„
Maybe behavioral finance is right, and investors are unduly pessimistic due to herding, extrapolation bias, you name it. Regulators can change the equilibrium or slow things down.
Shackling Short Sellers: Boehmer, Jones, and Zhang
10
Q-Group Spring 2010 Seminar
The shorting ban was far-reaching…
„
Stocks affected:
‰ Initially applied to 797 financial stocks (based on SIC codes)
‰ SEC soon delegated the composition of the list to SEC soon delegated the composition of the list to
exchanges
‰ About 200 more firms added to the ban list later (including GE, GM, IBM)
‰ About 8 firms removed themselves from the ban list.
Shackling Short Sellers: Boehmer, Jones, and Zhang
11
Q-Group Spring 2010 Seminar
…but had a number of holes (by design)
„
Time line
‰ Announced late evening Thu 18 Sep
Announced late evening Thu 18 Sep
‰ Effective Fri 19 Sep.
‰ Could be extended for total of 30 calendar days
‰ Shorting resumed on Thu 9 Oct
„
Exemptions
p
‰ Registered market makers, block positioners, or other market makers in the over‐the‐counter market ‰ Options market‐makers
Options market makers
„
It is still possible to take a bearish position via puts, total return swaps, credit default swaps, etc.
d d f l
Shackling Short Sellers: Boehmer, Jones, and Zhang
12
Q-Group Spring 2010 Seminar
Confounding events
„
Fri 19 Sep was a very unusual day:
‰
Triple witching day (expirations for index futures, index options, Triple
witching day (expirations for index futures index options
equity options)
‰
U.S. shorting ban and other short sale reporting requirements
‰
Treasury secretary Henry Paulson announces creation of what would soon become known as TARP (Troubled Asset Relief Program)
‰
Treasury announces money‐market fund guarantee program
‰
Federal Reserve announces asset‐backed CP lending program
‰
Federal Reserve widens range of allowable collateral for existing lending programs
‰
Breathtaking intraday volatility
Breathtaking intraday volatility
Shackling Short Sellers: Boehmer, Jones, and Zhang
13
Q-Group Spring 2010 Seminar
Empirical design
„
We examine effects of the shorting ban on:
g
‰ Shorting activity
‰ Stock returns ‰ Market quality and volatility
„
Methodology
M
h d l
‰ Matching firms
‰ Panel regressions
Panel regressions
Shackling Short Sellers: Boehmer, Jones, and Zhang
14
Q-Group Spring 2010 Seminar
Data
„
We merge data from 5 sources. ‰ List of affected stocks from SEC and exchanges
List of affected stocks from SEC and exchanges
‰ Various stock characteristics from CRSP
‰ Intraday data on trades and quotes from TAQ
y
q
‰ Short interest data from the exchanges ‰ Proprietary NYSE and Nasdaq intraday short sale data
„
Sample ‰ Aug 1, 2008 –
A 1 2008 Oct 31, 2008
O t 31 2008
‰ 465 firms (404 on initial list, 61 added later)
Shackling Short Sellers: Boehmer, Jones, and Zhang
15
Q-Group Spring 2010 Seminar
Matching firms
„
„
We match each banned firm with a non‐banned firm by using: g
‰ Listing exchange
‰ The presence or absence of listed options
‰ Pre‐ban market capitalization
‰ Pre‐ban dollar volume ‰ Matching metric
M hi
i
„ The sum of absolute values of % difference in market cap and dollar volume
cap and dollar volume
„ We choose with replacement using smallest distance
Matching pairs: 465 pairs
Shackling Short Sellers: Boehmer, Jones, and Zhang
16
Q-Group Spring 2010 Seminar
Alternative matching
„
Add an industry match as a robustness check
y
„ 3‐digit SICs with at least one firm banned, one firm not banned.
„ Then we follow the same procedure based on Then we follow the same procedure based on
options listing status, listing exchange, market cap and dollar volume.
„
Matching pairs: 61 pairs
„ Pure financial SIC codes are eliminated. „ This sample is dominated by firms in non‐financial industries with modest financial arms. Shackling Short Sellers: Boehmer, Jones, and Zhang
17
Q-Group Spring 2010 Seminar
Panel regressions
„
Daily panel regression of a matched pair difference Yit
on the ban dummy with two‐way fixed effects:
th b d
ith t
fi d ff t
Yit = α i + γ t + β DBAN it + θ X it + ε it
‰
„
Xit includes controls for:
„ Market cap
„ Dollar volume
„ Intra‐day volatility
„ Daily volume‐weighted average share price
Standard errors are computed using Thompson (2009) to control for correlations over time and cross firms
Shackling Short Sellers: Boehmer, Jones, and Zhang
18
Q-Group Spring 2010 Seminar
Results on shorting activity
original ban list
matched sample
pre-ban
ban
post-ban
pre-ban
ban
post-ban
Number of days
34
14
17
34
14
17
RELSS
0 2179
0.2179
0 0630
0.0630
0 1849
0.1849
0 1973
0.1973
0 1908
0.1908
0 1962
0.1962
Shackling Short Sellers: Boehmer, Jones, and Zhang
19
Q-Group Spring 2010 Seminar
The ban works: much less shorting!
40%
Ban started
Ban expired
35%
30%
25%
20%
15%
10%
5%
0%
1-Aug
8-Aug
15-Aug
22-Aug
29-Aug
5-Sep
12-Sep
19-Sep
RELSS non-banned match
26-Sep
3-Oct
10-Oct
17-Oct
24-Oct
31-Oct
RELSS banned
Cross-sectional mean of short sales as a percentage of trading volume (RELSS) for
404 stocks on the original SEC ban list with matched non-banned stocks.
Shackling Short Sellers: Boehmer, Jones, and Zhang
20
Q-Group Spring 2010 Seminar
Shorting activity and trading activity
RELSS (%)
Shorting volume (‘000 shares)
Number of shorts
Dollar volume ($mil)
Shackling Short Sellers: Boehmer, Jones, and Zhang
21
All firms
Industry match
-11.782
-8.344
( 7 12)
(-7.12)
( 4 55)
(-4.55)
-513.087
-406,568
((-5.51))
((-3.41))
-1,967
-1,591
(-7.03)
(-3.94)
-34.759
-17.692
(-2.56)
(-1.26)
Q-Group Spring 2010 Seminar
Shorting activity and trading activity
RELSS (%)
Shackling Short Sellers: Boehmer, Jones, and Zhang
Quartile
1
Quartile
2
Quartile
3
Quartile
4
-6.230
-11.025
-16.014
-14.833
(-0.86)
(-2.76)
(-5.07)
(-9.72)
22
Q-Group Spring 2010 Seminar
Effects on stock returns
„
If Miller (1977) is correct, with a temporary shorting ban, (
)
,
p
y
g
,
stocks should be temporarily overvalued. „ Other channels (e.g., puts) were still open
„
The confounding effect from TARP
‰ Stock price would respond positively to TARP
Stock price would respond positively to TARP
„
We use CAR to examine impact on stock prices
We use CAR to examine impact on stock prices
Shackling Short Sellers: Boehmer, Jones, and Zhang
23
Q-Group Spring 2010 Seminar
Stock price effects
0.400
Ban started
Ban expired
0.300
Stocks on the ban list
experience a “permanent”
price increase relative to
their matched controls
0.200
0.100
0.000
-0.100
-0.200
0 300
-0.300
-0.400
-0.500
-0.600
-0.700
1-Aug
1-Sep
1-Oct
banned firms
1-Nov
non-banned match
1-Dec
difference
Equal-weighted cumulative returns on 404 common stocks on the original
SEC ban list, 404 matched non-banned stocks, and the difference.
Shackling Short Sellers: Boehmer, Jones, and Zhang
24
Q-Group Spring 2010 Seminar
Share price effects on large Wall St. banks
30.0%
Both types of banned
firms respond
positively
p
y on day
y -1
and 0.
20.0%
CAR for both types
of banned firms
persists beyond the
end of the ban
10.0%
0.0%
10 -9
9
-10
-8
8
-7
7
-6
6
-5
5
-4
4
-3
3
-2
2
-1
1
0
1
2
3
4
5
6
7
8
9
10
-10.0%
-20.0%
Controls move together
as expected
-30.0%
-40.0%
-50 0%
-50.0%
Large Wall Street
banks really needed
help before the
shorting bans.
Huge price effects on
day -1 and day 0 for
l
large
W
Wallll St
St. b
banks.
k
-60.0%
CAR_Ban (non-TARP)
CAR_control (non-TARP)
CAR_Ban TARP)
CAR_control (TARP)
Equal-weighted cumulative returns on 8 primary dealers vs. 396 other firms on the
original SEC ban list, and the corresponding matched non-banned stocks.
Shackling Short Sellers: Boehmer, Jones, and Zhang
25
Q-Group Spring 2010 Seminar
Stock price effects: later additions
Equal-weighted CARs on 61 common stocks added later to the shorting ban.
Shackling Short Sellers: Boehmer, Jones, and Zhang
26
Q-Group Spring 2010 Seminar
Effects on market quality
„
Market quality
q
y
‰ Spread measures:
„
„
„
‰
„
effective spread
quoted spread
quoted spread
price impact
Volatility: intraday relative volatility
Do short‐sellers provide liquidity? ‰ If short
If short‐sellers
sellers do not provide liquidity on average, do not provide liquidity on average,
market quality should be unaffected. Shackling Short Sellers: Boehmer, Jones, and Zhang
27
Q-Group Spring 2010 Seminar
Effects on market quality
original ban list
matched sample
pre-ban
ban
post-ban
pre-ban
ban
post-ban
Number of days
34
14
17
34
14
17
Rel. effective spread
0.0042
0.0145
0.0100
0.0033
0.0052
0.0068
Rel. quoted spread
0.0055
0.0184
0.0142
0.0042
0.0070
0.0105
Rel. price impact in 5 min
0.0020
0.0066
0.0046
0.0016
0.0026
0.0034
Shackling Short Sellers: Boehmer, Jones, and Zhang
28
Q-Group Spring 2010 Seminar
Market quality sharply degraded
0.030
Ban started
Ban expired
0.025
0.020
0.015
0.010
0.005
0.000
1-Aug
8-Aug
15-Aug
22-Aug
29-Aug
5-Sep
RES non-banned match
12-Sep
19-Sep
RES banned
26-Sep
3-Oct
RPI5 non-banned match
10-Oct
17-Oct
24-Oct
31-Oct
RPI5 banned
Average effective spreads (RES) and 5-minute price impacts (RPI5) on 404
common stocks on the original SEC ban list vs. matching non-banned stocks.
Shackling Short Sellers: Boehmer, Jones, and Zhang
29
Q-Group Spring 2010 Seminar
Market quality in various subsamples
RES
RQS
Q
RPI5
Later
additions
only
All
Quartile
1
Quartile
2
Quartile
3
Quartile
4
Largest
TARP
firms
0.321
-0.145
0.576
0.453
0.225
0.183
0.331
(3.01)
(-0.38)
(5.21)
(9.76)
(5.98)
(2.58)
(6.18)
0.373
-0.849
0.848
0.570
0.271
0.202
0.351
(2.11)
(-1.56)
(6.65)
(6.56)
(5.80)
(2.65)
(5.07)
0.109
-0.168
0.228
0.231
0.092
0.059
0.160
(2 08)
(2.08)
((-00.97)
97)
(4 21)
(4.21)
(7 24)
(7.24)
(5 07)
(5.07)
(2 18)
(2.18)
(4 53)
(4.53)
Shackling Short Sellers: Boehmer, Jones, and Zhang
30
Q-Group Spring 2010 Seminar
Intraday price volatility spikes
0.25
Ban started
Ban expired
0 20
0.20
0.15
0.10
0.05
0.00
1-Aug
8-Aug
15-Aug
22-Aug
29-Aug
5-Sep
12-Sep
19-Sep
RVOL non-banned match
26-Sep
3-Oct
10-Oct
17-Oct
24-Oct
31-Oct
RVOL banned
Cross-sectional average of intraday transaction price range (RVOL) for 404
common stocks on the original SEC ban list vs. matching non-banned stocks.
Shackling Short Sellers: Boehmer, Jones, and Zhang
31
Q-Group Spring 2010 Seminar
Remaining short sellers are aggressive
0.006
Ban started
Ban expired
0.005
0.004
0.003
0.002
0.001
0.000
0 001
-0.001
-0.002
-0.003
-0.004
-0.005
1-Aug
8-Aug
15-Aug
22-Aug
29-Aug
5-Sep
12-Sep
19-Sep
RES(short) non-banned match
26-Sep
3-Oct
10-Oct
17-Oct
24-Oct
31-Oct
RES(short) banned
Average effective spreads (RES) paid by short-sellers on 404 common stocks
on the original SEC ban list vs. matching non-banned stocks.
Shackling Short Sellers: Boehmer, Jones, and Zhang
32
Q-Group Spring 2010 Seminar
Ban conclusions
„
SEC’s goals
g
‰ Ban might reduce volatility:
„ Not true. ‰ Ban might improve liquidity
„ Not true.
‰ Ban might help to boost prices
B
h h l
b
„ Maybe
‰ Probably caused by reactions to other news.
Probably caused by reactions to other news
‰ Could be outweighed by negative returns due to q
y
severe illiquidity.
Shackling Short Sellers: Boehmer, Jones, and Zhang
33
Q-Group Spring 2010 Seminar
Hindsight
„
December 2008: SEC chairman Christopher Cox stated p
that the biggest mistake of his tenure was the shorting ban. „
Commissioner Troy Paredes in February 2009: “…it became apparent that the ban did not stabilize the markets but did results in inefficiencies and other k b dd
l
ff
d h
market dislocations and disruptions. In short, the benefits of the ban did not materialize but the costs clearly did.”
Shackling Short Sellers: Boehmer, Jones, and Zhang
34
Q-Group Spring 2010 Seminar
Lesser restrictions are now on the table
Two price test alternatives have been proposed:
„
„
Return of some sort of uptick rule
Prohibition on marketable short sale orders
‰
No market orders, no marketable limit orders
If adopted, price tests may not be in effect all the time
„
May be imposed
‰
‰
Overall only when there is an overall market decline
Overall
only when there is an overall market decline
In a specific stock if it has fallen by more than X.
Wh t h ld
What should we expect to happen?
tt h
?
„
„
Nothing serious; we lived with similar restrictions for 70 years
We look at what happened in 2007 when we eliminated the uptick rule
Shackling Short Sellers: Boehmer, Jones, and Zhang
35
Q-Group Spring 2010 Seminar
July 2007: uptick rule eliminated
„
Regulation SHO adopted by the SEC at beginning of 2005
„
Reg SHO initiated a pilot program suspending the NYSE
Reg
SHO initiated a pilot program suspending the NYSE’ss tick test tick test
and the Nasdaq’s analogous bid test.
„
All Russell 3000 stocks ranked by market value; every third stock assigned to the pilot
assigned to the pilot.
„
Pilot continued into 2007.
„
Academic work found no effect on prices, little effect on market quality.
‰
‰
„
Diether, Lee, and Werner (2008)
Alexander and Peterson (2008)
Alexander and Peterson (2008)
SEC decided to repeal all price tests
‰
‰
Announced June 13, 2007
Effective July 6, 2007
Shackling Short Sellers: Boehmer, Jones, and Zhang
36
Q-Group Spring 2010 Seminar
Empirical design
„
„
„
Virtually random assignment simplifies econometrics
Look before and after the July 6, 2007 repeal of the uptick rule
Treatment vs. control
‰ Treatment group (non‐pilot stocks) experiences the repeal
‰ Control group (pilot stocks) free of the uptick rule throughout
C t l
( il t t k ) f
f th
ti k l th
h t
We examine effects of the repeal on:
„ Shorting activity
Sho ti a ti ity
„ Stock returns around the event
„ Aggressiveness of short sale order placement
„ Market quality
Market quality
„ Informativeness of short sales
„ Whether short sellers are contrarian vs. momentum traders
„ Stock price reversals
Stock price reversals
Shackling Short Sellers: Boehmer, Jones, and Zhang
37
Q-Group Spring 2010 Seminar
Did
repeal
cause
the
quant
meltdown?
15%
Cumula
ative Markeet Return
Uptick rule repealed
10%
5%
0%
-5%
31-Dec
31-Mar
Shackling Short Sellers: Boehmer, Jones, and Zhang
30-Jun
38
30-Sep
31-Dec
Q-Group Spring 2010 Seminar
The proprietary shorting data
„
All short sale orders in NYSE system order database Jan‐Aug 2007
„
Can observe order placement and other very micro info about each C
b
d
l
t d th
i
i f b t
h
short sale order
„
Sometimes easier to just aggregate all the day’s short sales in each stock „
High‐frequency shorting flow data
„
Not the same as short interest
„
Can’t reconstruct short interest at intermediate dates:
‰
‰
‰
No data on short covering
No data on manual short sale executions on the floor.
No data on short sales away from the NYSE:
„
„
„
„
Other exchanges
Upstairs market
Offshore
Derivatives and synthetic short sales (e.g., total return swaps)
Shackling Short Sellers: Boehmer, Jones, and Zhang
39
Q-Group Spring 2010 Seminar
More shorting since tick test repealed
Shorting as a fractio
on of tradin
ng volume
Shorting prevalence during 2007 in NYSE stocks
60%
Tick test repealed
50%
40%
30%
20%
10%
0%
Jan
Feb
Mar
Apr
May
non-pilot
Shackling Short Sellers: Boehmer, Jones, and Zhang
40
Jun
Jul
Aug
pilot
Q-Group Spring 2010 Seminar
Stock returns around uptick rule repeal
6%
Announcement
Effective Date
Cumu
ulative Returrn
4%
2%
0%
30-Apr
2%
-2%
30-May
30-Jun
30-Jul
30-
-4%
-6%
-8%
Pilot Less Non-Pilot
Shackling Short Sellers: Boehmer, Jones, and Zhang
0.025 Quantile
41
0.975 Quantile
VW Mkt Return
Q-Group Spring 2010 Seminar
Short-sale orders become more aggressive
Short order characteristics in NYSE stocks during 2007
50%
Fraction
n of shortt sales
Tick test repealed
40%
30%
20%
%
10%
0%
Jan
Feb
Mar
non pilot marketable
non-pilot
Apr
May
non pilot passi
non-pilot
passivee
Jun
pilot marketable
Jul
Aug
pilot passive
passi e
Passive short-sale orders are those placed at or above the prevailing ask price.
Shackling Short Sellers: Boehmer, Jones, and Zhang
42
Q-Group Spring 2010 Seminar
Repeal slightly widens effective spreads
0.20%
Uptick rule repealed
Efffective Spread
d
0.15%
0.10%
0.05%
Jan
Feb
Mar
Apr
May
non-pilot
Shackling Short Sellers: Boehmer, Jones, and Zhang
43
Jun
Jul
Aug
pilot
Q-Group Spring 2010 Seminar
Conclusions
„
Shorting bans are very bad for markets
„
Uptick repeal did not cause or worsen the 2007 quant meltdown
„
Price tests would have big effects on some trading strategies:
‰
‰
„
Strategies requiring rapid implementation over short time horizons
Strategies
requiring rapid implementation over short time horizons
Uptick version would also affect market‐making strategies
Price tests should have very modest effects on market quality
y
q
y
‰
‰
Forces short sellers to provide liquidity
Should cause slight improvement in:
„
„
„
Bid‐ask spreads
Ask depths
Ask depths
Suspect the SEC is trying to avoid imposing these restrictions, but may be forced by political pressure or outside events.
Shackling Short Sellers: Boehmer, Jones, and Zhang
44
Q-Group Spring 2010 Seminar