After more than a year following the short squeeze in so-called meme stocks, the informational advantage of short-selling data resurfaces.
It is well documented that short-selling information has predictive power for future stock returns that goes beyond established factors such as low-risk, momentum, quality and value.1 However, the risk of short selling (for example, in the form of a short squeeze) and high lending fees have cast doubt on the risk-adjusted net profitability of shorting individual stocks.
That said, short-selling information can also be used in long-only applications by either (i) investing in the least shorted stocks, (ii) underweighting the most shorted stocks, or (iii) discriminating between similarly attractive low-risk, momentum, quality or value stocks.
In January 2021, however, the Reddit-fueled retail trading frenzy in highly-shorted ‘meme stocks’ such as GameStop and AMC Entertainment Holdings2 called into question the validity of the informational advantage gained from short-selling data. So did these events of January 2021 constitute a short-term phenomenon, or did they mark the end of an investment signal that had been successful for a long time?
Figure 1 shows the cumulative outperformance of stocks sorted into five quintile portfolios based on a composite of short-selling signals. These signals include the shorting ratio, but also take into account several criteria such as demand, supply, fees and liquidity.
In January 2021, the most shorted stocks outperformed by about 3%. However, after that, they underperformed leading to a cumulative underperformance of about -10% over the sample period. By contrast, the least shorted stocks only marginally underperformed in January 2021, before rebounding and generating an outperformance of around 8% over the same period. These results, therefore, suggest that short-selling data still offers investors valuable information beyond common factors.
1 See: Boehmer, E., Jones, C. M., and Zhang, X., April 2008, “Which shorts are informed?”, Journal of Finance; Engelberg, J. E., Reed, A. V., and Ringgenberg, M. C., August 2012, “How are shorts informed?: Short sellers, news, and information processing”, Journal of Financial Economics; and Engelberg, J. E., Evans, R. B., Leonard, G., Reed, A. V., and Ringgenberg, M. C., November 2020, “The Loan Fee Anomaly: A Short Seller's Best Ideas”, SSRN working paper.
2 See: Lee, J., January 2021, “Short sellers crushed like never before as retail army charges”, Bloomberg.
Please read this important information before proceeding further. It contains legal and regulatory notices relevant to the information contained on this website.
The information contained in the Website is NOT FOR RETAIL CLIENTS - The information contained in the Website is solely intended for professional investors, defined as investors which (1) qualify as professional clients within the meaning of the Markets in Financial Instruments Directive (MiFID), (2) have requested to be treated as professional clients within the meaning of the MiFID or (3) are authorized to receive such information under any other applicable laws. The value of the investments may fluctuate. Past performance is no guarantee of future results. Investors may not get back the amount originally invested. Neither Robeco Institutional Asset Management B.V. nor any of its affiliates guarantees the performance or the future returns of any investments. If the currency in which the past performance is displayed differs from the currency of the country in which you reside, then you should be aware that due to exchange rate fluctuations the performance shown may increase or decrease if converted into your local currency.
In the UK, Robeco Institutional Asset Management B.V. (“ROBECO”) only markets its funds to institutional clients and professional investors. Private investors seeking information about ROBECO should visit our corporate website www.robeco.com or contact their financial adviser. ROBECO will not be liable for any damages or losses suffered by private investors accessing these areas.
In the UK, ROBECO Funds has marketing approval for the funds listed on this website, all of which are UCITS funds. ROBECO is authorized by the AFM and subject to limited regulation by the Financial Conduct Authority. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request.
Many of the protections provided by the United Kingdom regulatory framework may not apply to investments in ROBECO Funds, including access to the Financial Services Compensation Scheme and the Financial Ombudsman Service. No representation, warranty or undertaking is given as to the accuracy or completeness of the information on this website.
If you are not an institutional client or professional investor you should therefore not proceed. By proceeding please note that we will be treating you as a professional client for regulatory purposes and you agree to be bound by our terms and conditions.