Short Covering Factor
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Jesse Blocher; Matthew C. Ringgenberg
- Vanderbilt University
- ?Vanderbilt University - Finance
- Baruch College
- University of Utah
- ?University of Utah - Department of Finance
- ?City University of New York, Baruch College - Zicklin School of Business - Department of Economics and Finance
Strategy in a nutshell
The investment universe consists of U.S. stocks. Markit (a leading provider of data in the equity loan market) data are mandatory to construct a direct measure of the closing of short positions by short sellers called GrossCover (basic sum of the reduction in open loans in stock i from beneficial owners [BO] who are removing shares from their equity loan supply and the reduction in loan quantity from lenders whose quantity of shares on loan decreases in stock i) variable for each day, which is then summed to get monthly value for each stock i. All portfolios are value-weighted and rebalanced monthly (at the end of month t).
Investor sorts stocks into decile portfolios based on (monthly) GrossCover values.
The Low portfolio is formed of stocks in the lowest short covering decile, while the High portfolio is formed of stocks in the highest short covering decile.
Investor forms final long-short Low-High portfolio and performs trading actions (buys stocks with low net short covering and shorts stocks with high net short covering).
Economic rationale
Authors fill the gap in the existing literature by providing novel evidence on the covering behavior of short sellers using a large panel of U.S. equities over a nearly ten-year period. GrossCover is intended to capture to what extent short sellers are covering positions, irrespective of whether new investors are replacing them. It measures the total decrease in the quantity of shares on loan on a particular date for a particular stock. Many idiosyncratic limits to arbitrage do cause short sellers to exit their positions; yet, most systematic limits to arbitrage do not.