Arbitrage Involvement and Security Prices

In one sentence

The presence of a well-functioning shorting market can help correct under-pricing.

Summary

We propose that deep and liquid short-selling markets allow hedge funds to hedge their long positions (by, for instance, making their position market- or industry neutral). This allows them to trade more aggressively on under-pricing, thereby improving market efficiency. Using the Hong Kong setting where only certain stocks added to a particular list can be shorted, we find evidence consistent with this proposition.

Research topics