Short Selling and Price Pressure Around Merger Announcements

Abstract

Prior research argues that short selling by merger arbitrageurs adds downward pressure to the stock prices of acquiring firms, particularly for firms that use stock financing. We test this hypothesis by examining daily short sale data surrounding merger announcements. Our initial results show that short selling activity surges in response to merger announcements and that abnormal post-announcement short selling is driven by those mergers that use stock financing. This result is consistent, in part, with the presence of merger arbitrage. However, additional tests show that the negative post-announcement stock returns to acquiring firms are orthogonal to the level of post-announcement short selling activity. These findings extend the current literature by showing that, while post-announcement short selling is abnormally high, this short selling does not put undue pressure on acquiring firms’ stock prices.