Short selling doesn’t actually help with price discovery as it can artificially inflate or deflate the stock price in ways that buying and selling doesn’t. Knowing something is 55.54$ not 55.55$ isn’t nearly as important as knowing it’s around 55$ not 155$, thus if anything short selling is harmful to price discovery.
We show that stock prices are more accurate when short sellers are more active. First, in a large panel of NYSE-listed stocks, intraday informational efficiency of prices improves with greater shorting flow. Second, at monthly and annual horizons, more shorting flow accelerates the incorporation of public information into prices. Third, greater shorting flow reduces post-earnings-announcement drift for negative earnings surprises. Fourth, short sellers change their trading around extreme return events in a way that aids price discovery and reduces divergence from fundamental values. These results are robust to various econometric specifications, and their magnitude is economically meaningful.
I was making a different point, yes on most days it’s a net positive. But, it’s also introducing new black swan events like a short squeeze where the price becomes wildly disconnected from the underlying economic reality.
It’s often argued that a small increase on most days is more important than large but rare inaccuracies, however it’s a question of how you’re measuring things. If you use a direct average vs square root of the sum of inaccuracies squared etc.
The stock market is inflated by an abundance of capital which very much represents the underlying economic reality. It’s not representative of the broader economy simply because many industries like higher education is massively underrepresented.
However, once you accept those exceptions I think it’s surprisingly accurate.
