Who Clears the Market When Passive Investors Trade?

98 Pages Posted: 15 Apr 2024

See all articles by Marco Sammon

Marco Sammon

Harvard Business School

John J. Shim

University of Notre Dame - Mendoza College of Business

Date Written: October 03, 2024

Abstract

We find that firms are the primary sellers of shares when index funds are net buyers, providing shares at a nearly one-for-one rate. Rather than provide liquidity, most demand-side institutions trade in the same direction as index funds, especially over long horizons. To establish causality, we develop a novel instrument for inelastic index fund demand, and show that firms are the most responsive, with prices as the coordinating mechanism. We show evidence consistent with stock compensation as the main source of firm issuance to satisfy passive demand, consistent with firms clearing the market for index fund buying but not selling.

Keywords: Market Clearing, Index Funds, Passive Ownership, Mutual Funds, ETFs, Active Management, Institutional Investors, Price Pressure, Flows, Equity Compensation JEL Classification: G11

JEL Classification: G11, G12, G23

Suggested Citation

Sammon, Marco and Shim, John J., Who Clears the Market When Passive Investors Trade? (October 03, 2024). Available at SSRN: https://ssrn.com/abstract=4777585 or http://dx.doi.org/10.2139/ssrn.4777585

Marco Sammon

Harvard Business School ( email )

Boston, MA 02163
United States

John J. Shim (Contact Author)

University of Notre Dame - Mendoza College of Business ( email )

P.O. Box 399
Notre Dame, IN 46556-0399
United States

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