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The Market for Corporate Control as a Limit to Short Arbitrage

Published online by Cambridge University Press:  24 November 2022

Costanza Meneghetti ,
Ryan Williams  and
Steven C. Xiao Open the ORCID record for Steven C. Xiao [Opens in a new window]
Costanza Meneghetti
Affiliation:
Colorado State University College of Business costanza.meneghetti@colostate.edu
Ryan Williams
Affiliation:
Groupe de Formation et de Recherche en Finance, Université Paris Dauphine – PSL ryan.williams@dauphine.psl.eu
Steven C. Xiao*
Affiliation:
University of Texas at Dallas Jindal School of Management
*
steven.xiao@utdallas.edu (corresponding author)
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Abstract

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We hypothesize that corporate takeover markets create significant constraints for short sellers. Both short sellers and corporate bidders often target firms with declining economic prospects. Yet, a target firm’s stock price generally increases upon a takeover announcement, resulting in losses for short sellers. Therefore, short sellers should require higher rates of return when the takeover likelihood is higher. Consistent with this prediction, the return predictability of monthly short interest increases with industry-level takeover probability and decreases as takeover defenses are implemented. Our results suggest that efficient takeover markets create trading frictions for short sellers and can therefore inhibit overall market efficiency.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 58 , Issue 5 , August 2023 , pp. 2162 - 2189
Creative Commons
Creative Common License - CCCreative Common License - BY
This is an Open Access article, distributed under the terms of the Creative Commons Attribution licence (https://creativecommons.org/licenses/by/4.0), which permits unrestricted re-use, distribution and reproduction, provided the original article is properly cited.
Copyright
© The Author(s), 2022. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

We thank Eric de Bodt, Ekkehart Boehmer (the referee), Scott Cederburg, Zhiwu Chen, Sudipto Dasgupta, Joey Engelberg, Andrej Gill, Itay Goldstein, Clifton Green, Umit Gurun, Kewei Hou, Shiyang Huang, Jonathan Karpoff, Jun Li, Tse-Chun Lin, Cen Ling, Baixiao Liu, Paul Malatesta (the editor), Jean-Marie Meier, Kevin Mullally, Dmitriy Muravyev, Lin Peng, Gordon Phillips, Michael Rebello, Alessio Saretto, Dragon Tang, Michael Wittry, Tracy Xu, Alan Zhang, Harold Zhang, Dexin Zhou, and seminar participants at the Chinese University of Hong Kong, Colorado State University, Université Lille, University of Hong Kong, the University of Texas at Dallas, University of Venice, University of Connecticut, the 2018 FMA Annual Meeting, 2020 Conference on Behavioral Research in Finance, Governance, and Accounting, 2019 University of Denver Finance Conference, and 2020 GSU Conference on Financial Economics in Honor of Jayant Kale for helpful comments. The usual disclaimer applies.

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