Academic review of short-selling
The World Federation of Exchanges (“WFE”), the global industry group for exchanges and CCPs, has today published a paper that reviews the academic literature on short-selling and short-selling bans, comparing the arguments against banning short-selling with the arguments in favor.
The WFE’s paper - What does academic research say about short-selling bans? - finds that the academic evidence almost unanimously points towards short-selling bans being disruptive for the orderly functioning of markets, as they are found to reduce liquidity, increase price inefficiency and hamper price discovery. Indeed, the evidence suggests that banning short-selling during periods of heightened uncertainty seems to exacerbate, rather than contain, market volatility.
According to the literature, during periods of price decline and heightened volatility, short-sellers do not behave differently from any other traders, and contribute less to price declines than regular ‘long’ sellers. As research has shown that short-selling bans are more deleterious to markets characterized by a relatively high amount of small stocks, low levels of fragmentation, and fewer alternatives to short-selling, emerging markets should be particularly wary of bans on short-selling.