ETF ownership and stock liquidity: evidence from China

Due to their low participation cost, exchange-traded funds (ETFs) are booming in China. We find that stocks with higher ETF ownership display higher liquidity while controlling for other institutional ownership. In the post-crash periods when ETF market evolves rapidly, the impact becomes greater. For large-capitalization stocks, ETF ownership has a stronger impact on stock liquidity. The liquidity shocks in the ETFs market can propagate to the underlying stocks through the instantaneous creation/redemption arbitrage mechanism. Moreover, ETF market makers create/redeem to manage their inventory risk, therefore introducing liquidity to stocks.