The Effects of Short-Selling and Margin Trading: a Simulation Analysis

This paper examines the effects of introducing and removing short sale constraints and margin requirements on a stock market using a multiagent simulation model. We focused on the influence of these kinds of restrictions on daily price volatility and on traders long-run wealth distribution. We performed analysis both in a closed market and in an open market, where there is random cash inflow or outflow ten simulation days apart. Considering the closed market, we found that if short selling and margin trading are not banned, volatility tend to slightly increase. Also, we found that, if short selling and margin trading are allowed, there is a chance that some traders declare bankrupt and leave the market. Generally, the open and the closed market have similar features, except for the fact that in an open market the number of bankrupts increases. External factors, such as sudden variations of prices and wealth, damage traders who are in debt positions much more than the other traders.