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[2020-3] Impact of Leveraged ETFs on Stock Market Volatility

Group : Macro Economy
Research Department (02-759-4254) 2020.03.29 2689


Leveraged exchange-traded funds (ETFs), which aim to achieve a certain percentage of yield on their underlying assets, such as stock price indexes, have been growing rapidly since their introduction as more attention has been placed on their merits: the provision to market participants of high-return investment opportunities with low transaction costs. Increases in leveraged ETFs have worked positively in financial markets, in that they supply liquidity to underlying asset markets and offer investors instruments to use diverse investment strategies. However, concerns have been raised steadily in the U.S. and other major countries that leveraged ETFs can heighten volatility in stock and other underlying asset markets. In the case of Korea, leveraged ETFs account for a higher proportion of the overall ETF market than in other major countries, and there has been continued concentration in equity-type products. In addition, although the asset size of the leveraged ETF market is not large compared to that of the underlying asset market, leveraged ETFs are likely to affect markets when circumstances change due to their high transaction turnover rate. Accordingly, this article has conducted an empirical analysis of what impacts leveraged ETFs that track Korean stock indices have had on stock market volatility.

 

The analysis found that leveraged ETFs have had significant impacts on the volatility of domestic stock indices. Spillover effects have been found: shocks in leveraged ETF markets increased volatility in yields on the KOSPI 200 and KOSDAQ 150 indices. Moreover, with the growing size of the leveraged ETF market, the higher the share of assets held by ETFs in stock markets, the higher the volatility of the stock indices.

 

As leveraged ETFs are expected to show continued growth going forward based on their advantages, such as ease of making transactions, it is necessary to pay continued attention to their impacts on the volatility of stock and other underlying asset markets. In addition, various policy efforts should be made to encourage the sound development of leveraged ETFs. It is necessary to ease the concentration of leveraged ETFs in specific markets by developing a more diverse range of products. At the same time, continuous efforts need to be made to protect investors by strengthening information disclosures.

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