Short Selling and Earnings Management: A Controlled Experiment
44 Pages Posted: 29 Jun 2013 Last revised: 21 Jun 2017
Date Written: August 17, 2015
During 2005 to 2007, the SEC ordered a pilot program in which one-third of the Russell 3000 index were arbitrarily chosen as pilot stocks and exempted from short-sale price tests. Pilot firms’ discretionary accruals and likelihood of marginally beating earnings targets decrease during this period, and revert to pre-experiment levels when the program ends. After the program starts, pilot firms are more likely to be caught for fraud initiated before the program, and their stock returns better incorporate earnings information. These results indicate that short selling, or its prospect, curbs earnings management, helps detect fraud, and improves price efficiency.
Keywords: Regulation SHO, Pilot Program, Short Selling, Earnings Management, Fraud Discovery, Price Efficiency
JEL Classification: G14, G18, G19, M41, M48
Suggested Citation: Suggested Citation