Short selling regulation, return volatility and market volatility in the Athens Exchange

Purpose - The relationship between short selling, market volatility and liquidity remains an object of intensive research. However, empirical evidence is yet to provide a conclusive elucidation of this relationship by examining aspects of market fragmentation in the form of different market settings, different timing and different stocks under coverage, among others. This paper aims to contribute to the debate by investigating the impact of short selling on market volatility and liquidity in the Athens Exchange (ATHEX) under three different periods of short sales restrictions. Design/methodology/approach - Two hypotheses are tested using econometric methodologies (co-integration and Granger-causality tools). Findings - The empirical results indicate that when short selling is allowed, aggregate stock returns are in the short-term more volatile, but the liquidity of the market is not significantly affected. This might be the result of significant imbalances between supply and demand of stock caused by short-selling restrictions, leading to market price fluctuations. Research limitations/implications - The analysis of empirical evidence needs further expansion and association with institutional firm-level and country-level elements to provide a more comprehensive understanding of the impact of short selling on market volatility and liquidity. Practical implications - Stock market regulation involving short-selling restrictions have different implications according to extent and degree of stringency of the restrictions as well as the market on which they are imposed. That is especially important for the assessment of the market impact of the recent European Union regulation on short selling that has been imposed upon all EU member-States alike. Social implications - Financial regulation policy must balance the benefits and costs for retail investors of imposing short-selling restrictions on stock market trading. Originality/value - First-time empirical evidence is provided on the impact of short selling regulations on market volatility and liquidity of ATHEX highlighting the potential effectiveness of regulation policy.