Market Microstructure Daniel Sungyeon Kim

1. Market Microstructure Daniel Sungyeon Kim

2. Short Selling Q: What is short selling?

3. Short Selling Q: How is short selling done?

4. Short Selling Why short sell?

5. Historical Record Over the last 80 years: Average return on large stocks = 12.0% / year Average return on small stocks = 17.7% / year  negative returns are infrequent: about 25% of months or 25% of years  short sellers are trying to predict an unusual event

6. More standard model of short-selling So we learned that when short-selling is allowed When short-selling is banned

8. Lockup agreements When a company does an Initial Public Offering (IPO), the company insiders, including employees, friends and family, and venture capitalists, usually sign a lockup agreement with the underwriters. What are lockup agreements?

9. Lockup Agreements What is likely to happen when lockup agreements expire?

10. Lockup agreements Why?

13. Schultz Critiques the prior paper: At their peak, internet stock = 6% of market cap  not a big distortion Insiders were locked-up, but others could short-sell  pessimistic investors could influence price

18. “Nasty, brutish, and short” Given that I have short-sold stock “XYZ,” how can I increase the chances of making a profit on my position?

19. “Nasty, brutish, and short” “Since markets turned sour last year, plenty of financial firms, from Bear Stearns and Lehman Brothers in America, … have seen increased shorting.”

20. “Nasty, brutish, and short” Why might regulators be concerned about short-sellers?

21. “Nasty, brutish, and short” Short selling is only a small amount of total trading But is often the focus of restrictions or bans

22. “Taxing the Speculators” What is a “Tobin Tax”?

23. “Taxing the Speculators” Why impose a “Tobin Tax”?

24. “Taxing the Speculators” What is Krugman’s main arguments for a “Tobin Tax”?

25. “A Transaction Tax Would Hurt All Investors” Bill in Congress: “Let Wall Street Pay for the Restoration of Main Street Act” Tobin Tax = 0.25% on each stock trade and derivative trade vs. current NYSE effective spread = 0.06%  Tax = 4X current effective spread!

26. “A Transaction Tax Would Hurt All Investors” What are the article’s main arguments against the bill?

27. “EU proposes 0.1 percent financial transaction tax” • European Commission proposes: • 0.1% tax on stock and bond trades • 0.01% tax on derivative trades •  would raise €57 billion / year starting Jan 2014 • Requires unanimous approval of EU states • Is it likely to be adopted in EU? In some countries? • Also suggest it be adopted worldwide • In G20 forum: • Canada, Britain, the United States, Australia and Chinaoppose it • France, Germany, Austria, Belgium, Norway, Spain and several African states support it • Is it likely to be adopted worldwide?

28. Beber and Pagano Global financial crisis in 2007 – 2009  bans or constraints on short-selling around the world “Covered short selling” = short-seller arranges to borrow shares at the time of the short-sale “Naked short selling” = short-seller doesn’t arrange to borrow shares at the time of the short-sale, but plans to borrow shares before the settlement date  settlement risk On the next slide: “Naked ban” = ban on naked short-selling only “Covered ban” = ban on both naked and . covered short-selling “Financial stocks” = ban only covers . financial stocks only “Non-financial stocks” = ban covers all stocks