Does the Introduction of Equity ETFs in the Emerging Markets Improve the Liquidity of the Underlying Stocks?
Post by MSF Chula at Sunday, 31 January 2021 11:07 PM

This paper examines whether the introduction of Exchange-Traded Funds
(ETFs) has an effect on the liquidity of underlying stocks, specifically its impact on the
liquidity of smaller-weight stocks. The sample consists of equity ETFs that were
introduced between January 1, 2002 to December 31, 2018 from various emerging
markets, including Brazil, China, India, Mexico, South Africa, Turkey, Chile,
Colombia, Hungary, and Thailand. From my research, I have found that the liquidity of
the underlying stocks tends to decline after the arrival of ETFs, and the reduction is also
more pronounced for lower-weighted stocks. The results are robust after controlling for
the country fixed effects. The findings support the adverse selection hypothesis that
there are lower adverse selection costs in ETF markets than in individual stock markets,
however, the adverse selection costs are mitigated by the change of stock-specific
informed demand from individual stock market to the ETF market.

Last updated at Sunday, 31 January 2021 11:07 PM