The Information Intermediary Role of Short Sellers

Abstract

This paper examines the conditions under which the market responds to disclosures of significant increases in short selling, and whether proxies for earnings expectations and alternative information sources help explain this response. Our sample is based on firms that experience abnormal short interest increases (“short spikes”) during 1989–1998. We find that the mean abnormal return around short spike announcements is significantly more negative for firms with low analyst following, consistent with short sellers providing perceived value when there are limited alternative sources of guidance available. For firms with high analyst following we find the market response is dependent on earnings levels, consistent with investors viewing a short interest increase as providing information about the sustainability of earnings. Additional analyses reveal that these inferences are not affected by measures of firms' earnings quality or by the relative size of the short spike. We infer from our analyses that the information content of short interest disclosures is conditional on both the firms' existing information environment and expectations of future performance as conveyed by prior earnings. This inference is consistent with short sellers' role as information intermediaries covering the lower tail of earnings expectations.

Price discovery in the CDS market: the informational role of equity short interest

“…Stock market prices have been used extensively to test and support information-based hypotheses about short 4 The literature has three strands. First, several studies document relations between short selling and equity returns in calendar time and around specific events (Senchack and Starks 1993;Desai et al 2002;Christophe et al 2004;Pownall and Simko 2005;Boehmer et al 2008;Diether et al 2009;Boehmer and Wu 2013). These studies support the view that short sellers trade mostly to exploit an information advantage in stocks rather than to hedge or speculate.…”

“…The focus of most prior literature supporting this informational role, however, has been on how shorting relates to price discovery in the equity market (Senchack and Starks 1993;Dechow et al 2001;Desai et al 2002;Christophe et al 2004;Pownall and Simko 2005;Boehmer et al 2008;Diether et al 2009;Werner 2010;Boehmer and Wu 2013). Other work on how the supply of and demand for shortable stocks and other shorting market features affect the returns on shorting strategies has also focused on the equity market (Cohen et al 2007;Blocher et al 2013).…”

Short-Sellers and Analysts as Providers of Complementary Information about Future Firm Performance

“…Pownall and Simko (2005) also find that abnormal returns for firms with high analyst following are negatively associated with prior earnings levels, which suggests that investors believe short-interest spikes provide information about the sustainability of these firms' earnings. However, Pownall and Simko (2005) do not investigate the extent to which short interest predicts future earnings levels and changes or whether information from analysts subsumes the information in short interest about future earnings. I investigate this relationship in this study.…”

“…1 While extensive research investigates financial analysts role as information intermediaries, recent research takes initial steps at examining the potential role of short-sellers as information intermediaries in the capital markets (Pownall and Simko 2005;Akbas et al 2008). The objective of this study is to investigate whether short-sellers and analysts develop complementary information about future firm performance and to assess whether investors can improve predictions made by one intermediary by using information provided by the other.…”

“…Finally, Pownall and Simko (2005) initiated a new line of short-selling research by examining whether short sellers act as information intermediaries in the capital markets. The authors assert that short-sellers' ex post observable trades are a proxy for their information-processing and forecasting activities.…”