Fixed Income ETFs, Bond Liquidity, and Stressed Markets

Abstract

This paper examines the impact of Fixed Income Exchange-Traded Funds (ETFs) on corporate bond liquidity. I find that corporate bonds ETFs decrease the transaction costs of their constituent securities. The use of two distinct quasi-natural experiments, that control for the identification issues of self-selection and of an index effect, establishes a causal relation between ETF ownership and bond liquidity. Moreover, ETFs do not appear to deteriorate the liquidity of their bonds during ETF arbitrage and market stress events. My findings support the theoretical prediction that ETFs increase information efficiency.

Keywords: Exchange-traded funds, Corporate bonds, Liquidity

JEL Classification: G12, G14, G15