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Is there any research on the equity return performance of hard-to-borrow securities?

Many shops will simply screen for hard-to-borrow and eliminate these names from their short book.

Anecdotally, it seems that these names have a tendency to rally on account of short-covering effects and future demand. I know there is research on 'short interest %' as a quant equity factor, but is there any research on the performance of hard-to-borrow securities?

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  • $\begingroup$ Great question, I've wondered about that for a while, never seen anything. My guess, though, is that while they may occasionally rally sharply, they will tend to underperform, as many more people would like to short them but are unable to, so some of that negative information is not fully impounded into the price. $\endgroup$ – Tal Fishman Aug 2 '12 at 15:32
  • $\begingroup$ Presumably there's a difference between (1) a stock that's always hard to borrow, and (2) a stock that becomes hard to borrow. An example of the latter is what happens when regulators prohibit shorting of bank stocks, like the US in 2008 or Spain a couple weeks ago. $\endgroup$ – chrisaycock Aug 2 '12 at 15:52
  • $\begingroup$ @chrisaycock Well, in this case that is a difference between hard-to-borrow and illegal-to-borrow. I think this question only relates to the former. The latter has also been studied, of course, but it is difficult to disentangle any effect from what was going on at the time. $\endgroup$ – Tal Fishman Aug 2 '12 at 20:23
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    $\begingroup$ @TalFishman Those government prohibitions against short-selling usually exempt the market maker. Actually, a lot of the rules regarding locates are relaxed for registered MMs. So it's definitely possible for certain participants to short a security when most other traders cannot. $\endgroup$ – chrisaycock Aug 2 '12 at 20:45
  • $\begingroup$ @chrisaycock Valid point, but then a market maker probably would not be interested in the long-term relative performance of such stocks. $\endgroup$ – Tal Fishman Aug 3 '12 at 14:34
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I think this paper (which I skimmed once a long time ago and no longer have access to) may provide some insight:

Cohen, Lauren, Karl B. Diether, and Christopher J. Malloy. "Shorting Demand and Predictability of Returns." Journal of Investment Management 7, no. 1 (2009): 36-52.

It seems to consider stock loan fees which may be a proxy for "hard to borrow".

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    $\begingroup$ nice find... the holder of the security may be better off then the expected loss from the stock loan fee. interesting. $\endgroup$ – Ram Ahluwalia Aug 3 '12 at 16:15

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