Fails to deliver under naked short selling did not cause the 2008 financial market crash, a new study says.
Research by academics shows the FTDs blamed in part for the collapse of Lehman Brothers in September 2008, which led to rules from the Securities and Exchange Commission to put a stop to aggressive naked short selling, actually had nothing to do with it. Naked short selling — betting that a stock's price will fall by selling shares without borrowing them, then looking to immediately cover positions after a sale — has been labeled the main cause of FTDs.
Vikas Raman, assistant professor of finance at Warwick Business School; Veljko Fotak, assistant professor, finance and management economics department, at University of Buffalo School of Management; and Pradeep Yadav, professor of finance at the University of Oklahoma; found no evidence that activity by traders resulting in FTDs caused the failure of financial companies, or that spikes in the number of FTDs actually occurred after firms confessed they were in trouble.
“Our research found that the spikes in FTD activity came after news about the firms' financial problems had been announced,” Mr. Raman said in a statement accompanying the study. “There was an abnormal amount of FTDs during the crash, which you would expect. When there is negative news, traders want to short sell so there would be an increase in FTDs, but when we analyzed the data, we found they did not precipitate the announcements of the financial firms being in difficulty and the subsequent falls in stock prices.”
The study, “Fails-to-Deliver, Short Selling, and Market Quality,” analyzed 1,492 NYSE stocks between January 2005 and June 2008. Researchers also looked at 2,381 Nasdaq ordinary common-share issues over the same period.