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Impact of ETF inception on the valuation and trading of component stocks

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  • Jeff Madura
  • Thanh Ngo

Abstract

While exchange-traded funds (ETFs) are being created at a rapid rate, there is very limited research on how they affect the component stocks that they contain. We find that in response to the inception of ETFs, there are positive and significant valuation effects on the dominant component stocks (defined as the 10 largest stocks in each ETF). The variation in the valuation effects is associated with stock-specific characteristics, such as relatively low liquidity and the size of the ETF in which the component stock is contained. The characteristics of the component stocks that experience more favourable valuation effects at the inception of ETFs also lead to a more pronounced increase in their trading volume following their ETF's inception. The increase in trading volume is especially pronounced for those component stocks that are relatively small, have relatively low levels of liquidity, and are contained within relatively large ETFs.

Suggested Citation

  • Jeff Madura & Thanh Ngo, 2008. "Impact of ETF inception on the valuation and trading of component stocks," Applied Financial Economics, Taylor & Francis Journals, vol. 18(12), pages 995-1007.
    • Handle: RePEc:taf:apfiec:v:18:y:2008:i:12:p:995-1007
    DOI: 10.1080/09603100701335424
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    Citations

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    Cited by:

    1. Florian Hauser & Bob Kaempff, 2013. "Evolution of trading strategies in a market with heterogeneously informed agents," Journal of Evolutionary Economics, Springer, vol. 23(3), pages 575-607, July.
    2. Zura Kakushadze & Willie Yu, 2021. "ETF Risk Models," Papers 2110.07138, arXiv.org.
    3. Zura Kakushadze & Willie Yu, 2022. "ETF Risk Models," Bulletin of Applied Economics, Risk Market Journals, vol. 9(1), pages 1-17.
    4. Zhang, Yue, 2015. "The securitization of gold and its potential impact on gold stocks," Journal of Banking & Finance, Elsevier, vol. 58(C), pages 309-326.
    5. Rajarshi Aroskar & Willaim A. Ogden, 2012. "An analysis of exchange traded notes tracking errors with their underlying indexes and indicative values," Applied Financial Economics, Taylor & Francis Journals, vol. 22(24), pages 2047-2062, December.
    6. Wu, Chih-Chiang & Chen, Wei-Peng, 2022. "What's an AI name worth? The impact of AI ETFs on their underlying stocks," Finance Research Letters, Elsevier, vol. 46(PB).
    7. Shaen Corbet & Cian Twomey, 2014. "Have Exchange Traded Funds Influenced Commodity Market Volatility?," International Journal of Economics and Financial Issues, Econjournals, vol. 4(2), pages 323-335.
    8. Michael Hanke & Klaus Schredelseker, 2010. "Index funds should be expected to underperform the index," Applied Economics Letters, Taylor & Francis Journals, vol. 17(10), pages 991-994.
    9. Prabhdeep Kaur & Jaspal Singh, 2021. "Impact of ETF Listing on the Returns Generated by Underlying Stocks: Indian Evidence," Management and Labour Studies, XLRI Jamshedpur, School of Business Management & Human Resources, vol. 46(3), pages 263-288, August.

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