Aggressive Short Selling and Price Reversals

Abstract

We show that short selling may, occasionally, cause excessive price pressure. We study large negative price reversals that occur on no-news days and find that short selling during such reversals is abnormally aggressive and substantially increases the magnitude of price declines. This negative effect on prices extends beyond a mere selling pressure from aggressive sell orders. Consistent with extant theories of predatory trading, price reversals are also accompanied by aggressive non-short selling. Large price reversals are more likely to occur in the stocks for which short selling restrictions are lifted; however, even when restrictions apply, traders often successfully circumvent them.