Naïve Style-level Feedback Trading in Passive Funds

Journal of Financial and Quantitative Analysis, forthcoming

64 Pages Posted: 3 Jun 2017 Last revised: 16 Oct 2020

Date Written: October 13, 2020

Abstract

Passive Exchange-Traded Funds (ETFs) are ideally suited to style-level feedback trading because of their high liquidity, ease of short-selling, and pure play on investment styles. I find strong evidence of short-term style momentum trading in ETFs. Institutional investors that use ETFs do not act as arbitrageurs by trading against style momentum. Institutions, especially less sophisticated ones, are themselves style momentum traders. Moreover, recent style-level demand predicts style-level return reversals. These findings suggest that uninformed positive feedback trading by less sophisticated market participants can destabilize financial markets in the short run.

Keywords: Positive Feedback Trading, Style-Switching, Institutional Investors, Non-Fundamental Demand, Exchange-Traded Fund (ETF), Return Predictability.

JEL Classification: G10, G11, G14, G23

Suggested Citation

Broman, Markus S., Naïve Style-level Feedback Trading in Passive Funds (October 13, 2020). Journal of Financial and Quantitative Analysis, forthcoming, Available at SSRN: https://ssrn.com/abstract=2979043 or http://dx.doi.org/10.2139/ssrn.2979043

Markus S. Broman (Contact Author)

Ohio University ( email )

College of Business, Finance Department
Copeland Business Annex 207
Athens, OH 45701-2979
United States

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

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