Short selling ETFs and market performance

Abstract We examine short selling activity in leveraged Exchange‐Traded Funds (ETFs) and its impact on underlying index performance. Using a novel measure of ETF short exposure, which includes long positions in inverse leveraged ETFs, we document that high short exposure is associated with positive performance in the subsequent period. While the short exposure of both 1X and leveraged ETFs predicts future returns, the latter is more pronounced. This predictability is particularly significant during periods of economic downturns and is primarily driven by inverse leveraged ETFs. Our findings highlight the critical role of leveraged ETFs in hedging strategies and suggest that monitoring short exposure in broad market ETFs provides valuable insights for investors during volatile times.