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Shorting Costs Kill Stock Return Anomalies?

December 1, 2022 • Posted in Short Selling

Do stock borrowing fees (shorting costs) inherent in long-short strategies constructed to exploit stock return anomalies kill those anomalies? In their September 2022 paper entitled “Anomalies and Their Short-Sale Costs”, Dmitriy Muravyev, Neil Pearson and Joshua Pollet investigate effects of shorting costs on gross profits generated by published stock return anomalies. Since shorting costs are not available until July 2006, and discovery samples for 83% of selected anomalies end before 2006, their analyses are largely out-of-sample. For each anomaly, they sort stocks into tenths, or deciles, such that expected average return of the bottom (top) decile is lowest (highest). They compute monthly equal-weighted average abnormal returns of decile portfolios relative to characteristics-matched equal-weighted benchmark portfolios. They then analyze impacts of shorting costs on anomaly profitability in two ways:

  1. Including all stocks, they adjust the monthly return for each stock to account for the monthly borrowing fee for that stock. 
  2. They re-calculate anomaly returns after excluding stock-months with annualized borrowing fees exceeding 1%.

Using rules for 162 published stock return anomalies and associated daily stock returns and shorting costs during July 2006 through December 2020, they find that:

(more…)

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