Do ETFs increase the comovements of their underlying assets? Evidence from a switch in ETF replication technique

We investigate the impact of Exchange-Traded Funds (ETFs) on the comovements of their constituent securities using a novel identification that exploits the switch from synthetic to physical replication of a large French ETF. After the switch, constituent stocks experience greater commonality, in both returns and liquidity. For both the full sample of ETF constituents and the least liquid ETF constituents, a larger part of the variation in individual stock returns or liquidity is explained by market-wide variations. We present evidence that ETF creation and redemption is the transmission mechanism of the comovements. Moreover, we show that the comovements do not appear excessive.

Keywords: ETFs, commonality

JEL Classification: G12, G14

Suggested Citation: Suggested Citation

Marta, Thomas and Riva, Fabrice, Do ETFs increase the comovements of their underlying assets? Evidence from a switch in ETF replication technique (April 9, 2022). Journal of Banking & Finance, 2024[10.1016/j.jbankfin.2024.107333], Université Paris-Dauphine Research Paper No. 4079302, Proceedings of the EUROFIDAI-ESSEC Paris December Finance Meeting 2022, Available at SSRN: https://ssrn.com/abstract=4079302 or http://dx.doi.org/10.1016/j.jbankfin.2024.107333