The Impact of ETFs in Secondary Asset Markets: Experimental Evidence

Abstract

We examine how exchange traded funds (ETFs) affect asset pricing, volatility and trade volume in a laboratory asset market. We consider markets with zero or negative correlations in asset returns and the presence or absence of composite ETF assets. We find that when the returns on assets are negatively correlated, the presence of an ETF asset reduces mispricing and price volatility without decreasing trading volume. In the case where returns have zero correlation, the ETF asset has no impact. Thus, our findings suggest that ETFs do not harm, and may in fact improve, price discovery and liquidity in asset markets.