Rebecca De Simone - London Business School
When flows matter for asset prices: Evidence from adoption of ETF creation in Israel
Rebecca De Simone_ Polina Dovmany Ilan Gildinz
We study a 2012 reform in Israel where all exchange-traded products listed on the
Tel Aviv Stock Exchange (TASE) adopted the Exchange Traded Fund (ETF) creation
mechanism wherein designated market makers arbitrage between the index price and
the net asset value of its benchmark. The reform greatly decreased the cost of this
arbitrage activity and improved the liquidity of the ETN. We document that in response
there was a significant increase in demand for ETN. Next, we find that the effect was
stronger for illiquid indices containing smaller stocks. We utilize this heterogeneity
to estimate the causal effect of inflows into the ETN on the price of the benchmark
securities. A 1 p.p. increase in ETN ownership as a percent of market capitalization
leads to an 11.7% increase in the price of stocks, revealing highly inelastic demand for
equities. Our findings provide new evidence on how passive inflows can change the
distribution of capital across indices, and in turn impact price and real efficiency.