Abstract
We examine the causal effect of limits-to-arbitrage on ten well-known asset pricing anomalies using Regulation SHO, which reduces the cost of short selling for a random set of pilot stocks, as a natural experiment. We find that the anomalies become weaker on portfolios constructed with pilot stocks during the pilot period. The effect is both statistically and economically significant, and Regulation SHO reduces the anomaly long-short portfolio returns by as much as 77 basis points per month. We also show that the effect comes only from the short legs of the anomaly portfolios. The effect remains intact after risk-adjustment with the Fama-French three-factor model.
Published Version
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