ETF Stock Return Predictability, Fund Premia, and Fund Flows

This study examines time-series dynamics among ETF stock returns, fund premia, and fund flows in the Korean market. In particular, we focus on two hypotheses, ETF stock return predictability and return chasing behavior by ETF investors. We obtain daily ETF trading data from the DataGuide and analyze the whole ETFs traded for more than 250 days from January 1, 2009 to October 18, 2019. The ETF sample is comprehensive, consisting of 442 ETFs including domestic stock ETFs, domestic bond ETFs, foreign stock ETFs, and so on. A panel Granger causality test, VAR and panel fixed-effect models are employed to identify a bivariate relationship among those variables. We find that ETF stock returns today are negatively related to previous-day fund premia. Interestingly, lagged ETF fund sizes or fund inflows are also negatively associated with current ETF stock returns, which is similar with the case of actively managed funds facing decreasing returns to scale, although stock-picking ability is not necessary for the managers of passively managed funds such as ETFs. In addition, positive lagged ETF stock returns predict current fund outflows, implying that ETF investors in Korea are more likely to be short-term reversal traders and different from return-chasers in the US fund market.