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Short-sale constraints and price bubbles

  • Lim, Bryan Y.
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    Miller (1977) demonstrated that if investors have heterogeneous beliefs and short sales are restricted, trade of a security will disproportionately reflect positive information, generating a price bubble. As this intuition applies most relevantly to short intervals of trade, a question arises as to the longevity of such a bubble. In this paper, I argue that a bubble effected by short-sale constraints persists only if agents cannot distinguish between order flow caused by positive information or order flow caused by the constraints. If the constraint is common knowledge, it should have no effect on the long-term pricing of the stock. If, however, the constraint is random and unknown, a price bubble may form.

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    File URL: http://www.sciencedirect.com/science/article/pii/S0378426611000586
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    Article provided by Elsevier in its journal Journal of Banking & Finance.

    Volume (Year): 35 (2011)
    Issue (Month): 9 (September)
    Pages: 2443-2453

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    Handle: RePEc:eee:jbfina:v:35:y:2011:i:9:p:2443-2453
    Contact details of provider: Web page: http://www.elsevier.com/locate/jbf

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