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Exchange traded funds and asset return correlations

Zhi Da and Sophie Shive

European Financial Management, 2018, vol. 24, issue 1, 136-168

Abstract: We provide novel evidence supporting the notion that arbitrageurs can contribute to return comovement via exchange trade funds (ETF) arbitrage. Using a large sample of US equity ETF holdings, we document the link between measures of ETF activity and return comovement at both the fund and the stock levels, after controlling for a host of variables and fixed effects and by exploiting the ‘discontinuity’ between stock indices. The effect is also stronger among small and illiquid stocks. An examination of ETF return autocorrelations and stock lagged beta provides evidence for price reversal, suggesting that some ETF†driven return comovement may be excessive.

Date: 2018
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Handle: RePEc:bla:eufman:v:24:y:2018:i:1:p:136-168