1 / 40

Short Selling in Initial Public Offerings

Short Selling in Initial Public Offerings. By Amy K. Edwards and Kathleen Weiss Hanley U.S. Securities and Exchange Commission For Presentation at the University of Waterloo. Disclaimer.

maitland
Download Presentation

Short Selling in Initial Public Offerings

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. Short Selling in Initial Public Offerings By Amy K. Edwards and Kathleen Weiss Hanley U.S. Securities and Exchange Commission For Presentation at the University of Waterloo

  2. Disclaimer The U.S. Securities and Exchange Commission disclaims responsibility for any private publication or statement of any SEC employee or Commissioner. This study expresses the authors’ views and does not necessarily reflect those of the Commission, the Commissioners, or other members of the staff.

  3. “.. short-selling is impossible during… the first days of trading.” -Hanley, Lee and Seguin (1996)

  4. Short sale constraints and IPO pricing • Previous studies suggest that short sale constraints can lead to overvaluation and/or underpricing • Miller (1977), Derrien (2006) and Ljungqvist, Nanda, and Singh • Constraints include: • Limits on underwriter lending shares during first month of trading: Houge, Loughran, Suchanek and Yan (2001) • Restricted supply of shares due to lock-ups: Ofek and Richardson (2000) • Level of rebate rates: Ljundqvist, Nanda and Singh (2006), Geczy, Musto and Reed (2002)

  5. Motivation • Recent research questions the importance of short sale constraints in IPOs. • Rebate rates: D’Avolio (2002) and Geczy, Musto and Reed (2002) • Grey markets: Dorn (2003), Ausseness, Pichler and Stomper (2003), Cornelli Goldreich and Ljungqvist (2006) • Short sale transactions data publicly unavailable prior to January 2005 • Examination of short selling at IPO provides natural experiment to examine effect of short sales (or lack thereof)

  6. Empirical findings • Short selling occurs early in the aftermarket • Short sales are positively related to the change in offer price and level of first day returns • Consistent with overvaluation due to either investor sentiment or divergence of opinion • No evidence that investors are systematically circumventing constraints or rules on borrowing shares by engaging in “naked” short selling • Short selling only marginally related to subsequent price returns • Findings not due to market maker activity

  7. Outline • Short selling institutional details • Data and summary statistics • Evidence on short selling • Determinants of short selling • Constraints on short selling • Effect of and profitability of short selling • Market makers • Conclusion

  8. Timing • T=0 • Offer date • First possible short selling date • T+3 • First settlement date • IPO closing date • First possible fail to deliver date

  9. Mechanics of a short sale • Short sellers must borrow stock for delivery on T+3 • Brokers must locate shares before executing a short sale • Locate occurs when the broker, not the investor, determines whether the stock can be borrowed • Market makers exempt from locate if shorting for their own account

  10. Cost of borrowing • To borrow stock, the short seller must post (proceeds of sale) collateral of about 102-105% of the stock value • A short seller is usually also required to post margin • Margin calls can be very costly if the short seller has limited capital • The lender rebates interest on the collateral to the short seller • Rebate rate= Fed funds rate – stock loan fee • Depends on lending difficulty • Can be negative

  11. Data • IPOs from SDC issued from January 1, 2005 through December 31, 2006 . • Final sample is 388 IPOs • No unusual characteristics except one IPO • Estimate market variables using TAQ and CRSP • Short selling data • Publicly available transaction-level data from: • Amex, Aracex, Boston, Chicago, NASD, NASDAQ, National, NYSE, Phlx • Aggregated to daily short selling volume

  12. Additional variables • First day returns (CRSP) • From offer to open • From open to close • From offer to close • Change in Offer Price = (Pipo-Pmid)/Pmid (SDC) • VolumeT+0/shares offered (CRSP) • Price supported IPO dummy • IR=0 OR IPO is in the bottom quartile of % OAO exercised (Bloomberg) OR top quartile for % percent trades, using TAQ, executed at the Pipo on offer day • Float= shares offer/shares outstanding (CRSP) • Ability to execute • Percentage of the trading day when the rule allows short sales to execute (TAQ) • NASDAQ dummy

  13. Offering statistics

  14. Does short selling exist?

  15. Distribution of first day short sales

  16. Daily short sales

  17. Intraday short sales

  18. Short selling in other studies • Diether, Lee and Werner (2006): Short sales comprise • 24% of daily trading volume in NYSE • 32% of daily trading volume in Nasdaq • Daily short selling volume is much lower than short interest. • Trading volume initially much higher in IPOs than in individual stocks

  19. Comparison to other studies

  20. Is short selling related to divergence of opinion? • Miller (1977) argues that “the prices of new issues… are set not by the appraisal of the typical investor, but by the small minority who think highly enough of the investment merits of the new issue to include it in their portfolio. The divergence of opinion about a new issue [is] greatest when the stock is issued.”

  21. Statistics by quartiles of first day return

  22. Determinants of short sales

  23. Short sale constraints • Ability to execute • Uptick Rule and Nasdaq Bid Test • Greater ability to execute, lower (not higher) is short selling • Ability to borrow shares • Float • Proxy for supply of lendable shares • Lower the float, higher (not lower) is short selling • “Naked” short selling • Cost of borrowing shares • Rebate rates

  24. Ability to borrow shares • Settlement and clearing process • From trade date (T) to settlement date (T+3), the clearing house (NSCC) aggregates buys and sells at clearing broker (not investor or level • Called “Continuous Net Settlement” or CNS • If a net seller does not have enough shares on account DTC records a “failure to deliver” (FTD) in that clearing broker’s account and assigns a “failure to receive” (FTR) to account of clearing broker who was a net buyer • Fails to deliver as a proxy for “naked” short selling • Daily fails collected from CNS • Only aggregate fails of 10,000 shares or more • Balance variable not flow

  25. Summary statistics on fails to deliver

  26. Daily fails to deliver

  27. Determinants of fails to deliver (T+3)Tobit analysis

  28. Threshold list • Longer lived fails • Max of 10,000 shares or 0.5% of shares outstanding for five consecutive days • T+7 is first day for inclusion on threshold list • Threshold list information from NYSE, Amex, and Nasdaq • 155 IPOs are on threshold list at some point during the first 30 days with 113 or 29% on list at T+7 • Only 2% of non-IPO stocks on list in May 2006

  29. Threshold listProbit analysis

  30. Could fails to deliver be related to underwriter price support activities? • Only offering amount plus exercise of the overallotment option (OAO) settles at DTC • Any shares allocated in excess of the number of shares offered but not covered by the exercise of OAO at time of closing are considered “uncovered” • Must either be purchased in open market or through OAO • Will result in fail to deliver if investor sells shares prior to covering by underwriter

  31. Cost of borrowing shares • Rebate rate data from anonymous vender • Includes 259 IPOs or 67% of sample • More likely to be in data • Greater is the short selling on first day and over first month • IPO listed on NYSE/Amex • Loan fee=Fed funds rate-rebate rate • Average loan fee over first month of trading • Monthly: 0.15% • Annual: 1.88% • Compare to Geczy, et.al. (2002) • First day: 2.95% • End of first month: 1.47%

  32. Determinants of the cost of borrowing • Other independent variables not shown and are insignificant (N=259)

  33. Short selling and returns • Short selling negatively related to subsequent returns • Diether, Lee and Werner (2007a) • Boehmer, Jones and Zhang (2008) • Use buy-and-hold returns adjusted for Nasdaq Composite Index • Adjust standard errors for clustering by month of IPO

  34. Return predictability

  35. Profitability

  36. Potential market maker activity • Market makers important in aftermarket trading • Krigman, Shaw and Womack (1999), Ellis, Michaely and O’Hara (2000) and Ellis (2006) • Exempt from locate requirement and some execution rules • Use “exempt” indicator for trading on Nasdaq for Nasdaq IPOs as proxy for market maker activity • 40% of first day short sales in Nasdaq IPOs are marked exempt

  37. Market maker effect on short selling

  38. Market maker effect on fails to deliver

  39. Market maker effect on return predictability

  40. Conclusion • Short selling is prevalent in early trading of IPOs • Constraints on short selling do not appear binding • No evidence that short sellers fail to borrow shares • Fails to deliver may be due to underwriter price support • Loan fees positively related to amount of short selling • Short selling is negatively related to short term returns but do not appear to mitigate underpricing • Results not due to market making activity • Unlikely that short sale constraints are responsible for high underpricing

More Related