If the global financial crisis taught traders anything, it was that short interest would have been a strong indicator that Silicon Valley Bank (SVB) was in trouble, according to research from Shivaram Rajgopal, the Kester and Brynes Professor at Columbia Business School.
The short interest factor is a proxy for a strategy that invests in the most highly shorted stocks.
Historically, heavily shorted stocks have underperformed the market as a whole.
Rajgopal’s research showed that there were warning signs early last year with short interest in SVB, according to NASDAQ data, jumping by 55% to 638,000 shares on 31/1/22 and again by 26% to 805,000 shares on 15/2/22.
He noted that by 30/6/22, short interest had climbed to 1.87 million shares and then peaks at 4 million shares on 15/1/23 and stood at 3.2 million shares on 28/2/23.
On 10 March, Silicon Valley Bank, a lender to some of the biggest names in the technology world, became the largest bank to fail since the 2008 financial crisis
The bank was taken over by the Federal Deposit Insurance Corp after it announced a $1.8bn loss on sales of securities, sparking a share price collapse and a deposit run.
It sparked fears over larger paper losses the bank was suffering in long-dated securities that lost value as the Fed raised interest rates.
Two days later, regulators abruptly shut down Signature Bank to prevent a crisis in the broader banking system.
Rajgopal said that his co-authors of his report, Hemang Desai of Southern Methodist University and Jeff Yu, visiting financial economist at the US Securities and Exchange Commission, documented the exact same pattern of shorts spotting the risk buildup among banks before the 2008 crisis.
The actions of other information intermediaries such as sell side analysts, rating agencies and auditors reflected a flat line over the period leading up to the 2008 crash, he added.
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