Abstract
AbstractThis study investigates whether short sellers anticipate undervaluation information before a repurchase announcement. Apart from exploring investment opportunities via searching for unfavourable information, short sellers should have the same incentive to identify favourable information to prevent potential losses. An observed significant negative relation between pre‐announcement short selling activities and announcement abnormal returns supports the informed hypothesis. This negative relation is stronger under high levels of information asymmetry, and more significant when the repurchase announcement is associated with the undervaluation.
Highlights
Managers make share repurchase announcements to signal undervaluation to the market, which subsequently leads to a price increase because of the value correction
I investigate whether this relation is affected by the level of information asymmetry because the incentive to acquire private information is stronger for firms with a high potential of mispricing
I discuss whether short sellers can detect the possible reasons behind the repurchase announcement, which will subsequently affect the relationship between the short interest ratio (SIR) and announcement returns
Summary
Managers make share repurchase announcements to signal undervaluation to the market, which subsequently leads to a price increase because of the value correction. Short sellers have strong incentives to acquire information before unfavourable news to profit from a high selling price (Christophe, Ferri, & Angel, 2004; Christophe, Ferri, & Hsieh, 2010; Desai, Krishnamurthy, & Venkataraman, 2006; Henry, Kisgen, & Wu, 2015), while they should have the same incentive to anticipate favourable news to prevent potential losses due to a high buy-back price in the future. If firms announce a share repurchase to signal the stock's undervaluation, potential price jumps following the signal would become the motive for short sellers to keep silence in their short selling activities to avoid losses. Anticipating the value of a repurchase announcement, which firms often use to signal undervaluation (Babenko, Tserlukevich, & Vedrashko, 2012; Huang & Thakor, 2013; Stephens & Weisbach, 1998), saves short sellers from potential losses. If short sellers are informed of this favourable information, short selling activities should stay at a low level when the potential price jump following the repurchase announcement will be high
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