Exchange-traded funds, liquidity and volatility

Timothy Krause, Sina Ehsani, Donald Lien

Research output: Contribution to journalArticlepeer-review

20 Scopus citations

Abstract

Given the exponential growth in exchange-traded fund (ETF) trading, ETFs have become a significant factor in the volatility generating process of their largest component stocks. A simple model of trading is developed for securities that are included in ETFs, and empirical support is provided for the model hypotheses. Volatility spillovers from ETFs to their largest component stocks are economically significant. These spillovers are increasing in liquidity, the proportion of each stock held by the fund, deviations from net asset value, ETF flow of funds and ETF market capitalization. The results are consistent with a positive volume–volatility relation and trading-based explanations of volatility, and are generally stronger for smaller stocks.

Original languageEnglish (US)
Pages (from-to)1617-1630
Number of pages14
JournalApplied Financial Economics
Volume24
Issue number24
DOIs
StatePublished - Dec 26 2014

All Science Journal Classification (ASJC) codes

  • Finance
  • Economics and Econometrics

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