Dynamic Equilibrium with Costly Short-Selling and Lending Market

Adem Atmaz, Suleyman Basak and Fangcheng Ruan

No 18256, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We develop a dynamic model of costly stock short-selling and lending market and obtain implications that simultaneously support many empirical regularities related to short-selling. In our model, investors’ belief disagreement leads to shorting demand, whereby short-sellers pay shorting fees to borrow stocks from lenders. Our main novel results are as follows. Short interest is positively related to shorting fee and predicts stock returns negatively. Higher short-selling risk can be associated with lower stock returns and less short-selling activity. Stock volatility is increased under costly short-selling. An application to GameStop episode yields implications consistent with observed patterns.

Keywords: Short-selling (search for similar items in EconPapers)
JEL-codes: G11 G12 (search for similar items in EconPapers)
Date: 2023-06
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Journal Article: Dynamic Equilibrium with Costly Short-Selling and Lending Market (2024)
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