The Changing Nature of Financial Analysis in the Presence of ETFs

Abstract

In this paper we study how the launch of an electronically traded fund (ETF) that holds firms in a specific industry changes the behaviour of analysts who follow that industry’s constituent firms. An industry ETF effectively allows investors to trade the firm-specific payoff component separately from the industry payoff component. We find that this causes significant changes in the value of different types of information. In particular, we find that following an increase in a firm’s industry ETF coverage, the firm’s analyst coverage increases in the following year, and this holds after controlling for changes in institutional investment and other firm and market characteristics. We also find that following an increase in ETF coverage, analyst recommendations are more likely to include an industry recommendation separate from the firm-specific recommendation, and the firm-specific recommendation is more likely to be stated in relative terms. Our results get stronger the better the new ETF is at providing a hedge against the industry payoff factor, and get stronger when we introduce a plausible control for endogeneity.