TY - UNPB

T1 - ETF Rebalancing, Hedge Fund Trades, and Capital Market

AU - Wang, George

AU - Yao, Chelsea

AU - Yelekenova, Adina

PY - 2023

Y1 - 2023

N2 - We study the interaction between ETF rebalancing and hedge fund “front-running” trades and its implications for the capital market. First, we document that ETF rebalancing has a strong negative relation with future stock returns. Second, we observe that hedge funds gradually increase (decrease) their net arbitrage positions before ETF rebalancing. Strikingly, the “front-running” stocks bought by hedge funds significantly outperform stocks not subject to hedge funds front-running by 0.86% (with a t-statistic of 3.86) before the month of ETF rebalancing. Our findings raise the question of the potential cost of ETFs rebalancing due to their embedded transparency and predictability, which creates anticipatory arbitrage trading by hedge funds.

AB - We study the interaction between ETF rebalancing and hedge fund “front-running” trades and its implications for the capital market. First, we document that ETF rebalancing has a strong negative relation with future stock returns. Second, we observe that hedge funds gradually increase (decrease) their net arbitrage positions before ETF rebalancing. Strikingly, the “front-running” stocks bought by hedge funds significantly outperform stocks not subject to hedge funds front-running by 0.86% (with a t-statistic of 3.86) before the month of ETF rebalancing. Our findings raise the question of the potential cost of ETFs rebalancing due to their embedded transparency and predictability, which creates anticipatory arbitrage trading by hedge funds.

KW - ETF Rebalancing

KW - Hedge Funds

KW - Arbitrage Trades

KW - Stock Returns

M3 - Working paper

BT - ETF Rebalancing, Hedge Fund Trades, and Capital Market

PB - SSRN Working Paper

ER -