Do Short Sellers Anticipate Future Market Returns? International Evidence

Abstract

I show that short interest is a strong negative predictor of stock market returns internationally. Short interest significantly and negatively predicts returns in 24 out of 32 countries examined; this predictability survives out-of-sample tests, persists outside recessions, and is not subsumed by other well-known return predictors. The predictive power of short interest varies across regions and increases when short selling is constrained by local short sale regulations or the availability of shares in the equity lending market. I construct a trading strategy that exploits the predictive ability of short interest for market returns via index futures and find that it generates returns and Sharpe ratios comparable to cross-sectional strategies exploiting a similar predictability pattern in stocks.