Maybe Short-Selling Isn’t So Bad, After All

Then there is the abolition of the so-called uptick rule on short sales in July 2007. When the rule was in place, a stock could not be sold short unless its last trade was higher than its previous traded price. The rule, put into effect in the 1930s, was intended to prevent short-sellers from accelerating the downward momentum of an already-declining stock.

Has the rule’s removal been an important contributor to the bear market of the last year? Professor Reed doubts it. Before scrapping the uptick rule, the S.E.C. ran a pilot program to test the possible consequences. In the test, the rule was lifted from hundreds of stocks that were part of the Russell 3000 index. The trading patterns of these stocks were exhaustively analyzed in a number of academic studies, all of which concluded that the rule had no significant impact on those stocks’ price movements, Professor Reed said.

Consider, for example, what short-sellers did on Sept. 9, a day that rumors circulated widely about a possible bankruptcy at Lehman Brothers and Lehman’s stock fell 45 percent, to $7.79 from $14.15. According to Professor Bris, the average price at which short-sellers sold Lehman stock that day was $9.29, significantly closer to the day’s low than to the high. That implies that they were reacting to the downward momentum, not causing it.