Bears Going Extinct? Interest Rates, Regulatory Enforcement, and the Survival of Short Sellers

Short sellers play a crucial role in financial markets as informed intermediaries andcorporate monitors, often exposing overvalued or fraudulent companies. However, recentdevelopments, such as the closure of prominent short sellers like Andrew Left and JimChanos, have raised concerns about the survival of short sellers. While these cases havespurred calls to prevent the potential extinction of short sellers, little empirical researchhas been conducted to determine whether these closures are merely anecdotal. Moreover,a systematic examination of factors influencing short-seller survival is lacking. The firstpart of this study seeks to address this gap by providing the first comprehensive analysisof the survival rates of short-selling funds, using a global dataset of over 39,000 hedgefunds.The second part of the study will provide cross sectional evidence on whether twocommonly cited factors—low interest rates and tougher regulatory enforcement—indeedimpact short-seller survival. Low interest rates affect short seller because it often fuelsmarket optimism, allowing overvalued firms to stay overpriced longer, which delays theprice corrections short sellers depend on and in the extreme short squeezes. Additionally,reduced rebates on collateral and easier access to capital for struggling firms erode theprofitability of short-selling strategies. Stricter regulatory enforcement, such as lawsuitsand investigations, affect short seller because it can frame short selling as marketmanipulation, increasing compliance costs and legal risks, while also discouraginginstitutional investors from supporting these strategies.In the third part of the study, we will further examine these two factors using naturalexperiments, including Hong Kong Linked Exchange Rate System, where the monetaryauthority was forced to adopt interest rate policies that diverged from local economicconditions, and exogenous shocks in two U.S. states that resulted in an unanticipatedincrease in regulatory enforcement against short sellers.This study makes three key contributions. First, it shifts the focus of theaccounting/finance literature from short sellers' roles as information intermediaries andcorporate monitors to examining short sellers’ survival and factors that threaten it.Second, it contributes to the literature on regulatory oversight by isolating the effects ofenforcement actions on short sellers' operations. Lastly, it addresses a surprisinglyunderexplored area in the short selling literature by providing evidence on therelationship between interest rates and short selling. Evidence on this relationship willbe of interest to global regulators, particularly in Hong Kong, given the territory’s uniquemonetary system.