Market-Maker Short Selling: A Necessary Evil?
Examines impact of market makers' short-selling on SSFs market, improving liquidity and price efficiency.
Paper Metadata
Publication Date: 2025-02-19
Source: SSRN
Link: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=5138432
Authors
Kyong Shik Eom, 549 Evans Hall #3880, Berkeley, CA 94720-3880, United States,
Baeho Kim (Contact Author), Anam-dong, Sungbuk-Gu, Korea University Business School, Seoul, 136-701, 82-2-3290-2626 (Phone), 82-2-922-7220 (Fax),
Keywords
Single-stock futures market-maker
Market quality
Notes for Review
Recommendation: 98%
This paper provides valuable insights into the impact of market makers' short-selling activities on the single-stock futures (SSFs) market in Korea. By employing machine-learning techniques, the authors classify market makers' short-selling activities into three categories: aggressive, reluctantly compliant, and willingly compliant. The results show that aggressive short selling by SSFs market makers significantly improved liquidity, reduced realized volatility, and enhanced price efficiency. However, these short-selling activities did not alleviate the backwardation effect in the spot market, suggesting that regulatory restrictions limited SSFs market makers from fully realizing the benefits of short selling. The paper uses TAQ data from the KRX SSFs market, covering the short-selling ban period from March 2, 2021 to April 30, 2021. The authors analyze all SSFs because the market maker has a de facto market-making obligation on all SSFs. They exclude transactions outside of the regular trading sessions of the KRX derivatives market and only use the nearest month futures contracts. The paper's findings emphasize the need for flexible regulations that fully harness the cross-market benefits of short selling, while minimizing the risk of market and political abuses. The results have important implications for market makers, regulators, and investors, as they highlight the benefits of short selling in improving market quality. Overall, this paper is a must-read for anyone interested in market microstructure and high-frequency trading, as it provides new insights into the impact of short selling on market quality and informative recommendations for regulators and market participants.
Abstract
This paper investigates the impact of market makers' short-selling activities, focusing on the singlestock futures (SSFs) market in Korea during the short-selling ban (March to April 2021), when only market makers were permitted to sell the underlying stocks short. Employing both supervised and unsupervised machine-learning techniques, we classified market makers' short-selling activities into three categories-aggressive, reluctantly compliant, and willingly compliant-and applied overlap propensity-score weighting to mitigate confounding biases. Our results reveal that aggressive short selling by SSFs market makers significantly improved liquidity, reduced realized volatility, and enhanced price efficiency, which is remarkable given the restrictive regulations that limited shortselling volumes. However, these short-selling activities did not alleviate the backwardation effect in the spot market, suggesting that the regulatory restrictions limited SSFs market makers from fully realizing the benefits of short selling. As the first study to empirically examine the economic role of SSFs market makers' short-selling activities and their influence on market quality in futures and spot markets, our findings emphasize the need for flexible regulations that fully harness the crossmarket benefits of their short-selling, while minimizing the risk of market and political abuses.