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The Invisible Hand of Short Selling: Does Short Selling Discipline Earnings Management?

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  • Massimo Massa
  • Bohui Zhang
  • Hong Zhang

Abstract

We hypothesize that short selling has a disciplining role vis-à-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.

Suggested Citation

  • Massimo Massa & Bohui Zhang & Hong Zhang, 2015. "The Invisible Hand of Short Selling: Does Short Selling Discipline Earnings Management?," The Review of Financial Studies, Society for Financial Studies, vol. 28(6), pages 1701-1736.
    • Handle: RePEc:oup:rfinst:v:28:y:2015:i:6:p:1701-1736.
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    File URL: http://hdl.handle.net/10.1093/rfs/hhu147
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