SAN FRANCISCO (MarketWatch) -- When American International Group proposed a reverse stock split earlier this year, the insurer said in a regulatory filing that a higher share price may attract institutional investors. So far, that hasn't worked out.

AIG (AIG) completed a 1-for-20 reverse stock split July 1. That lifted the company's shares to above $20 from below $2.

Since the split, AIG shares have slumped roughly 40%, including a 14% drop Tuesday, to $13.94. That suggests the higher stock price may have attracted a different type of investor: short sellers, who bet against shares.

When stocks fall close to $1, some short sellers are reluctant to bet against them. Nothing about companies in this predicament changes, but when prices are that low, there's a perception that there are fewer profits to be made by betting on further declines. Meanwhile, potential losses seem larger because the stocks might rally strongly from such low bases, forcing short sellers to buy back shares at higher prices to cover their positions in what's known as a short squeeze.


With AIG shares back above $20 last week, such concerns were removed.

"Market psychology probably has something to do with this," Cathy Seifert, an insurance analyst at Standard & Poor's Equity Research, said in an interview. "The underlying fundamentals haven't changed but the mechanics have."

A reverse stock split may also send a message to the market that executives at the company in question don't think the shares will recover through improving results anytime soon, other investors said Tuesday.

During AIG's annual meeting last week, a disgruntled investor asked Chief Executive Edward Liddy whether she should continue to hold on to her AIG shares after suffering hefty losses. Liddy apologized but didn't tell her to either buy or sell.