Short Selling ETFs

The effect of price tests on trader behavior and market quality: An analysis of Reg SHO

Frank Weikai Li and Qifei Zhu

The Review of Asset Pricing Studies, 2022, vol. 12, issue 4, 960-998

Abstract: We provide novel evidence that arbitrageurs use exchange-traded funds (ETFs) as an avenue to circumvent short-sale constraints at the stock level. Using a large sample of U.S. equity ETF holdings, we document that shorting activity on ETFs rises with the difficulty of shorting underlying stocks. Stocks heavily shorted via their holding ETFs underperform those that are lightly shorted. The return predictability of ETF shorting is distinct from stock-level shorting measures and is concentrated among stocks that face severe arbitrage constraints. These findings suggest that ETFs allow arbitrageurs to target overpriced stocks that are otherwise difficult to short. (JEL G12, G14)Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Date: 2022
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