Liquidity and Risk Sharing Benefits from Opening an ETF Market with Liquidity Providers: Evidence from the CAC 40 Index

Posted: 12 Sep 2008 Last revised: 16 Dec 2014

See all articles by Rudy De Winne

Rudy De Winne

UCLouvain - Louvain Finance

Carole Gresse

Université Paris Dauphine-PSL

Isabelle Platten

Facultes Un. Notre-Dame de la Paix Namur (FUNDP), CEREFIM

Date Written: April 28, 2014

Abstract

This article examines how the introduction of an ETF replicating a stock index impacts on the liquidity of the underlying stocks when the ETF market involves liquidity providers (LPs). We find that index stock spreads decline, relative to those of non-index stocks, after the introduction of the ETF but this liquidity improvement is not driven by changes in adverse selection costs or recognition effects. By contrast, we show that it is mainly explained by a decrease in order processing and order imbalance costs. This most probably results from additional risk sharing capacities provided by increased cross-market trading and LPs’ liquidity provision in low-liquidity times.

Keywords: Exchange-traded fund (ETF), index trading, transaction costs, liquidity, risk sharing

JEL Classification: G11, G12, G14

Suggested Citation

De Winne, Rudy and Gresse, Carole and Platten, Isabelle, Liquidity and Risk Sharing Benefits from Opening an ETF Market with Liquidity Providers: Evidence from the CAC 40 Index (April 28, 2014). International Review of Financial Analysis, 34, 31-43., Available at SSRN: https://ssrn.com/abstract=1253181 or http://dx.doi.org/10.2139/ssrn.1253181

Rudy De Winne

UCLouvain - Louvain Finance ( email )

Belgium
+3265323334 (Phone)

Carole Gresse (Contact Author)

Université Paris Dauphine-PSL ( email )

DRM
Place du Maréchal de Lattre de Tassigny
Paris cedex 16, 75775
France

HOME PAGE: http://www.carolegresse.com

Isabelle Platten

Facultes Un. Notre-Dame de la Paix Namur (FUNDP), CEREFIM ( email )

Rempart de la Vierge 8
Namur B-5000
Belgium

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