Short Selling in Volatile Markets

Abstract

We examine short selling of NYSE stocks that are listed on the S&P 500 on days when the index experiences dramatic price movements. While prior research shows that short sellers are generally contrarian in contemporaneous daily returns, we document that, after controlling for factors that influence the level of short selling in a particular stock, short activity is abnormally high (low) on large down (up) days when compared to non-down (non-up) days suggesting that short sellers trade in the direction the market moves. Further, we report that short sellers follow negative intraday returns on down days and positive intraday returns on up days. While we find some evidence of a negative relation between short activity and future intraday returns on down days, we do not find that short sellers on up days are able to predict negative intraday returns. However, we do show that short sellers on up days are better able to predict negative next day returns than short sellers on down days, suggesting that short sellers on up (down) days are more concerned with longer-term (shorter-term) price movements.