Do ETFS Increase the Commonality in Liquidity of Underlying Stocks?

Research Seminars
Academic Areas Finance
Prof. Vikas Agarwal, H. Talmage Dobbs, Jr. Chair and Professor of Finance, J. Mack Robinson College of Business, Georgia State University
March 8, 2017 | 3:30 PM - 5:00 PM | Wednesday
AC 2 MLT, Level - 2, Hyderabad, India
Contact: Neha Gupta,,
Open to Public
Abstract: We examine the impact of ETF ownership on the commonality in liquidity of the stocks held by ETFs, while controlling for the ownership by other institutional investors. Our results indicate that ETF ownership significantly increases the liquidity commonality on account of the arbitrage mechanism inherent in ETFs that ensures that ETF prices are in line with the prices of the underlying stocks. We show that greater arbitrage activities in both the primary and secondary markets of ETFs are associated with an increase in the effect of ETF ownership on commonality in liquidity. We exploit a quasi-natural experiment based on ETF trading halts to establish a causal relation between ETF ownership and liquidity commonality. Taken together, our results show that ETFs reduce the ability of the market participants to diversify liquidity shocks.