The effect of the 2008–09 short selling sales ban on UK security equities in relation to market metrics of volatility, liquidity, and price discovery

Abstract

In this study we look at the Financial Services Authority imposed short sale ban of UK financial equities in the 2008–2009 financial crisis to explore the effects of the short selling ban on liquidity, volatility, and price discovery on alternative portfolios of UK equity stocks. To this end we employ a control portfolio as well a portfolio of banned stocks. By using a GARCH model to explore the effects of short selling on portfolios’ returns volatility, we find a decline of volatility for selected UK financial stocks during the short sale restriction period. Further, we employ a bid-ask spread model to explore the effects of short selling on liquidity and find that liquidity deteriorates during the short sale ban period. We also employ a Wald-Wolfowitz Runs Test to investigate the effects of the short sale ban on price discovery and find that price discovery deteriorated during the short sale ban period. Finally, we examine the causal relationships among the market metrics in order to provide additional insight into the structure of the UK equity market during the period under study.