Accessible Unlicensed Requires Authentication Published by De Gruyter May 15, 2018

Short Sale Constraints, Correlation and Market Efficiency

Christos Giannikos and Eleni Gousgounis


This paper models a market where short sales are prohibited and investors have heterogeneous beliefs on asset values. We show that short sale constraints may cause overpricing, the magnitude of which depends on not only investors’ opinion dispersion on the value of the particular asset, but also on its correlation to other assets, as well as, the investors’ opinion dispersion for the values of those other assets.

JEL Classification: G10; G14


Asquith, P., Pathak P. A., and Ritter J.R.. 2005. “Short Interest, Institutional Ownership, and stock Returns.” Journal of Financial Economics 78: 243–276.10.1016/j.jfineco.2005.01.001 Search in Google Scholar

Aumann, R.J., and Peleg B.. 1974. “A Note on Gale’s Example.” Journal of Mathematical Economics 1: 209–211.10.1016/0304-4068(74)90012-3 Search in Google Scholar

Chen, J., Hong H., and Stein J.C.. 2002. “Breadth of Ownership and Stock Returns.” Journal of Financial Economics 66: 171–205.10.1016/S0304-405X(02)00223-4 Search in Google Scholar

Desai, H., Ramesh K., Thiagarajan S.R., and Balachndran B.V.. 2002. “An Investigation of the Informational Role of Short Interest in the Nasdaq Market.” Journal of Finance 57: 2263–2287.10.1111/0022-1082.00495 Search in Google Scholar

Diamond, D.W., Verrechia R., 1987. “Constraints on Short-Selling and Asset Price Adjustment to Private Information.” Journal of Financial Economics 18: 263–311. Search in Google Scholar

Figlewski, S. 1981. “The Informational Effects of Restrictions on Short Sales: Some Empirical Evidence.” Journal of Financial and Quantitative Analysis 16: 463–476.10.2307/2330366 Search in Google Scholar

Giannikos, C., Gousgounis, E. 2012. “Short Sale Constraints and Dispersion of Opinion: Evidence from the Indian Equity Market.” Financial Review 47: 113–143. Search in Google Scholar

Gimenez, E.L. 2003. “Complete and Incomplete Markets with Short-Sale Constraints.” Economic Theory 21: 195–204.10.1007/s00199-001-0244-9 Search in Google Scholar

Harrison, M.J., Kreps D.M.. 1978. “Speculative Investor Behavior in a Stock Market with Heterogeneous Expectations.” Quarterly Journal of Economics 92: 323–336.10.2307/1884166 Search in Google Scholar

Jarrow, R., 1980. “Heterogeneous Expectations, Restrictions on Short Sales, and Equilibrium Asset Prices. Journal of Finance 35: 1105–1113.10.1111/j.1540-6261.1980.tb02198.x Search in Google Scholar

Kokonas, N., and Polemarchakis H.. 2016. “Short Sales, Destruction of Resources, Welfare.” Journal of Mathematical Economics 67: 120–124.10.1016/j.jmateco.2016.09.006 Search in Google Scholar

Miller, E. 1977. “Risk, Uncertainty and Divergence of Opinion.” Journal of Finance 32: 1151–1168.10.1111/j.1540-6261.1977.tb03317.x Search in Google Scholar

Nakata, H. 2013. “Welfare Effects of Short-Sale Constraints Under Heterogeneous Beliefs.” Economic Theory 53: 283–314.10.1007/s00199-012-0691-5 Search in Google Scholar

Pennacchi, G. 2006. Theory of Asset Pricing. Pearson Addison Wesley. Search in Google Scholar

Published Online: 2018-05-15

© 2018 Walter de Gruyter GmbH, Berlin/Boston