SEC Follow Up Exhibits Part C SEC_OEA_FCIC_001760-2501

Reg SHO Pilot Report 2/12/2007
R = α + βR
t Mt
where Rt is the return on the stock in day t, and RMt is the equally-weighted market index return
from CRSP for that day. We also estimate the tendency of the alphas to be significantly positive
or negative. Pilot stocks might be more likely to have negative alphas than control stocks if
either price restrictions corrected over-pricing over long horizons or if price restrictions prevent
constant short selling pressure from pushing prices below their equilibrium level. Pilot stocks
might be less likely to have positive alphas if price restrictions facilitate over-pricing.
C. Measuring Large Price Reversals
As part of our analysis of whether price restrictions inhibit price patterns that may be
indicative of short-term price manipulation, we wish to examine the frequency of large short-
term price movements that are immediately reversed. Although such price reversals, or “spikes,”
are bound to occur with some frequency due to the natural variation of prices, they may also be a
sign of price manipulation. If the price patterns indicative of manipulation are more prevalent on
the short side than on the long side, we would expect to see more negative price spikes than
positive ones. And if price restrictions are effective at reducing the potential for price
manipulation, we might expect to see significantly more price spikes for pilot stocks than control
stocks.
To investigate this, we define the following measures of short-term price reversals:
Negative:
min( −R
Positive:
min( −R
, R
L
t−1
t
L
t , Rt−1
)
) / σ i
/ σ
In these formulas, σi represents the holding period (non-annualized) standard deviation of
returns on stock i, measured using data in the Pre-Pilot Period, Rt is the simple one-period return
Prepared by the Office of Economic Analysis 30
i