August 12, 2011

EDHEC Risk Institute has condemned the Aug. 11 decisions by financial market authorities in Belgium, France, Italy and Spain to impose or extend short selling bans in the wake of the renewed market volatility.

These hasty decisions are not only devoid of theoretical basis, but also fly in the face of empirical evidence, wrote the EDHEC in its press statement. EDHEC cites academic studies and work done by the Institutes own researchers that have documented the positive contribution of short sellers to market efficiency. It also states that studies show that constraining short sales significantly reduces market quality by reducing liquidity and increasing volatility which can have unintended spillover effects.

In a series of research articles, EDHEC Business School Professor Ekkehart Boehmer and his co-authors have studied short selling activities, notes the press statement. They established that short sellers are important contributors to efficient stock prices, that short interest contains valuable information for the market, that information is impounded faster and more efficiently into prices when short sellers are more active and that short sellers change their trading around extreme return events in a way that aids price discovery.

In looking at at previous bans in short selling imposed in the USA, UK and continental Europe in 2008, Professor Boehmer concluded that stocks subject to the US ban suffered a severe degradation in market quality, as measured by spreads and price impacts (i.e. liquidity), and intraday volatility.

The most recently study by EDHEC Professor Abraham Lioui focused on the impact of the bans on leading market and financial indices in the US, France, the UK and Germany. They found that these led to a systematic increase in the volatility of market indices and had an even stronger impact on financial indices. None of the studies found indication that short-selling bans reduced downward pressure in a significant manner, according to EDHECs release.

Against this backdrop, EDHEC denounces the decisions to impose or extend short-selling bans as a political smokescreen that is likely to be counterproductive by disrupting market functioning and degrading market at a stressful time. Indirectly, EDHEC adds, banning short sales is a way of further fueling defiance vis--vis sovereign states and the continued inability of their political institutions to address the causes of the current crisis.

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