In their May 2005 draft paper entitled “Do Short Sale Transactions Precede Bad News Events?”, Holger Daske, Scott Richardson and Irem Tuna challenge prior research that found short sellers are especially sophisticated and beat bad news to the market. By studying very recent short sale transactions for 3,651 securities on the New York Stock Exchange from April 2004 through February 2005, they find that:
- While short sale transactions increase at the time of significant news events (bad or good), there is no evidence that they are concentrated prior to bad news.
- There is no reliable evidence that daily changes in short sales transactions lead daily stock returns, contradicting the notion that short sale transactions are generally based on private information. Daily changes in short sale transactions do not predict daily stock returns.
- With the dramatic growth in short sales since the mid-1990s, uninformed speculators and position-hedgers may now dominate short selling, drowning out the potential informativeness of aggregate short sales.
- Recent regulatory changes related to disclosure (such as Regulation FD), may have truly broadened the flow of information to the market and significantly reduced the amount of “private” information.
In summary, very recent data suggests that short sellers may have lost their ability to predict bad news and stock price declines.
The authors acknowledge the limitations of this study to a relatively short period on one exchange, noting that other methods may uncover informed short selling in other exchanges, in more precise situations or over longer holding periods.
