NORMAN, Okla., May 18, 2010 (GLOBE NEWSWIRE) -- There has been intense regulatory and media concern about manipulative distortions associated with naked shorting. However, naked short sales are functionally indistinguishable from covered short sales at the time of trade, and they should arguably have the same beneficial impact on liquidity and pricing efficiency as has been documented for short-selling in general. Pradeep Yadav, Johnston Chair and Professor of Finance at the Price College of Business at the University of Oklahoma, together with two Price doctoral students, Veljko Fotak and Vikas Raman, investigate the impact of naked shorting on market quality, and find that naked shorting leads to a significant reduction in positive pricing errors, pricing error volatility, returns volatility, bid-ask spreads, and order imbalances; and this is qualitatively similar to what they find for covered shorting. Consistent with this, they find that the July/August 2008 SEC ban on naked short selling reduced liquidity and pricing efficiency.
Yadav, Fotak and Raman also investigate naked shorting around the demise of financial firms hardest hit by the 2008 financial crisis -- in particular Bear Stearns and Lehman Brothers -- and find no evidence that their price-declines were caused by naked shorting. They also find that naked shorting intensifies after rather than before credit downgrade announcements or large price declines. In general, naked short sellers respond to public news and price declines rather than trigger them. Finally, they find that manipulative naked shorting during the 2008 financial crisis sample period was not different from pre-crisis 2007 levels, and significantly lower than what it was prior to January 2005. Overall, their empirical results are in sharp contrast with the negative pre-conceptions that appear to exist among media commentators and regulators in relation to naked shorting. While they recognize that naked shorting could well raise serious concerns about fairness, and there is arguably the possibility that it can create potentially severe distortions, they do not find any evidence whatsoever that, overall, naked short-sellers manipulatively engineered price declines, or otherwise contributed adversely to creating market distortions, even in the extreme situation of the 2008 financial crisis. Instead, the gently regulated naked shorting that existed from 2005 to mid-2008 was net beneficial for liquidity and pricing efficiency.
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