Dispute the patent, short the stock: Empirical analysis of a new hedge fund strategy

Abstract

A new US patent legislation, called the America Invents Act, became effective in 2011. The reform strived toward facilitating the patent system. But soon it was also blamed for facilitating immoral third party profits. Urges for revision of the America Invents Act became even louder since hedge fund manager Kyle Bass had publicly outlined his questionable investment strategy: he challenges the validity of important drug patents, while shorting the owner's shares in order to eventually cash out on negative stock movements.The following questions aroused public interest the most: Does the mere filing of a patent opposition already result in negative stock returns? And is it really possible to earn money following such a strategy? The paper on hand is the first to empirically answer these questions. Event study methodology using three years of data from the United States Patent Trial and Appeal Board was employed.Findings were that the mere filing of a patent opposition in fact produces statistically significant negative returns. The result is robust with the abnormal return being −30 base points. In addition, multiple linear regression results confirm the conjecture that the higher the importance of the disputed patent, the higher the negative abnormal return on the filing date will be. However, transaction cost simulations prove that this strategy is still highly speculative and cannot be considered a real threat to patent holders or the US intellectual property system. The only ones who should start worrying are the few patent owners who really rely on absolutely unjustified and tenuous patent protection.