The invisible hand of short selling: Does short selling discipline earnings management?

• Main Authors: MASSA, Massimo, ZHANG, Bohui, ZHANG, Hong
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2015
• Subjects: Finance; Finance and Financial Management
• Online Access: https://ink.library.smu.edu.sg/lkcsb_research/7054; https://ink.library.smu.edu.sg/context/lkcsb_research/article/8053/viewcontent/hhu147.pdf
• Institution: Singapore Management University

We hypothesize that short selling has a disciplining role vis-a-vis firm managers that forces them to reduce earnings management. Using firm-level short-selling data for thirty-three countries collected over a sample period from 2002 to 2009, we document a significantly negative relationship between the threat of short selling and earnings management. Tests based on instrumental variable and exogenous regulatory experiments offer evidence of a causal link between short selling and earnings management. Our findings suggest that short selling functions as an external governance mechanism to discipline managers.