The last decade has witnessed a dramatic growth in passive investing via exchange-traded funds (ETFs). To the extent that the demand for stocks via ETF flows is not related to firm-specific fundamental values, large ETF flows may push the price of the underlying stocks away from their fundamentals-based value. In this study I provide evidence consistent with this conjecture. In particular, I first document a positive association between ETF flows and the price-to-fundamentals relation of underlying stocks. Then, by using BlackRock’s expansion into the ETF business as an exogenous shock, I provide evidence that the association is likely to be causal rather than reflect some form of endogeneity (i.e., ETFs selecting certain stocks). Also, I find that high-flow firms subsequently underperform low-flow firms in operating and stock performance, consistent with the misvaluation being caused by non-fundamental demand shocks. Cross-sectional tests suggest that the ETF-related misvaluation is stronger for stocks with: a less competitive equity market (i.e., with prices more sensitive to demand shocks), lower ownership by active investors, and more costly arbitrage constraints. Finally, I find that high-flow firms exhibit behavior typically associated with perceived overvaluation (e.g., more secondary equity offerings).
| Identifer | oai:union.ndltd.org:columbia.edu/oai:academiccommons.columbia.edu:10.7916/d8-3ty9-6592 |
| Date | January 2019 |
| Creators | Zou, Yuan |
| Source Sets | Columbia University |
| Language | English |
| Detected Language | English |
| Type | Theses |
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