Down but not out: plenty of returns available for shorted down stocks

Unlike in other developed equity markets, short sellers in Australia are required to report their covered short positions on a daily basis to the market regulator, who subsequently disseminates this information freely to the public in a very timely manner. If short selling contains negative information, a strategy that longs (shorts) stocks with low (high) short selling interest should result in positive returns. This study examines the profitability of such a strategy, named the short selling interest momentum trading strategy. The results indicate that significant returns can be made by following short sellers’ actions ex post. Further, stronger returns are made from price momentum winner stocks and short sellers behave rationally towards short selling activities. The findings from this study are robust to various controls relating to size, industry, price momentum and options.