The Market for Corporate Control as a Limit to Short Arbitrage

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 s...

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Bibliographic Details
Published in:Journal of financial and quantitative analysis 2023-08, Vol.58 (5), p.2162-2189
Main Authors: Meneghetti, Costanza, Williams, Ryan, Xiao, Steven C.
Format: Article
Language:English
Subjects:
Arbitrage
Business administration
Efficiency
Humanities and Social Sciences
Markets
Profits
Prospects
Short sales
Stock prices
Target company
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Summary: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.
ISSN:0022-1090
1756-6916
DOI:10.1017/S0022109022001302