Study: Short-Selling Isn't Market Manipulation

When stocks plunge, short sellers often receive the blame.

Frequently it is executives at companies whose stocks are plunging that accuse the shorts of manipulating the market.

But a new study shows that short sellers are simply putting smart research to work.

The report’s title is “How Are Shorts Informed? Short Sellers, News and Information Processing.” Its authors are University of North Carolina finance professors Joseph Engelberg and Adam Reed and UNC Ph.D. student Matthew Ringgenberg.

They looked at all New York Stock Exchange short sales from January 2005 to July 2007.

A vast majority of the time, short-sellers reacted to news articles at the same time as the rest of the market.

“Short-sellers do not uncover and trade on information before it becomes publicly available,” the researchers wrote.

The most likely reason for short sellers’ success is superior analytical skill, the authors conclude.

Because of the high cost and risk involved in establishing a short position, “traders are more likely to initiate a short sale only when a stock is totally overvalued,” Reed told The New York Times.

“They therefore will appear to have more ability than other types of traders who, because they operate with fewer barriers, are less likely to look before they leap.”

Short sellers played an important role in bringing down Enron and Lehman Brothers, even as executives at both companies sought to blame their woes on the shorts rather than acknowledging their own mistakes.