ETF Arbitrage, Non-Fundamental Demand, and Return Predictability

David C. Brown, Shaun William Davies, Matthew C. Ringgenberg

Research output: Contribution to journalArticlepeer-review

38 Scopus citations


Non-fundamental demand shocks have significant effects on asset prices, but observing these shocks is challenging. We use the exchange-Traded fund (ETF) primary market to study non-fundamental demand. Unique to the ETF market, specialized arbitrageurs called authorized participants correct violations of the law of one price between an ETF and its underlying assets by creating or redeeming ETF shares. We show theoretically and empirically that creation and redemption activities (ETF flows) provide signals of non-fundamental demand shocks. A portfolio that is short high-flow ETFs and long low-flow ETFs earns excess returns of 1.1-2.0% per month, consistent with non-fundamental demand distorting asset prices away from fundamental values. Moreover, we show non-fundamental demand imposes non-Trivial costs on investors, leading to underperformance.

Original languageEnglish (US)
Pages (from-to)937-972
Number of pages36
JournalReview of Finance
Issue number4
StatePublished - Jul 1 2021


  • ETF flows
  • Exchange-Traded funds (ETFs)
  • G12
  • G14
  • Non-fundamental demand
  • return predictability

ASJC Scopus subject areas

  • Accounting
  • Finance
  • Economics and Econometrics


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