Factors That Affect EFT Liquidity : NobleTrading Blog

Friday, November 7, 2008

Factors That Affect EFT Liquidity

Exchange traded funds (ETFs) are considered among most liquid trading instruments, especially when compared against mutual funds. But different ETFs have different levels of liquidity. Below are some factors that affect the liquidity of these funds.

Underlying Asset: ETFs which have less liquid equities as there underlying assets are usually less liquid than those have liquid equities as underlying asset.
Diversification: ETFs which invest in broad diversified market indexes are usually more liquid than which invest in specific sectors.
Market Capitalization: ETFs which invest in large-cap stocks are usually more liquid than mid-cap and small-cap tracking ETFs.
Fixed Income Securities: ETFs which have fixed income securities like treasury bonds, corporate bonds, etc as underlying instruments are more volatile and is also less risky.
Economy: ETFs which track indexes of emerging world economies are usually considered less liquid than that of developed world economies. Also ETFs investing in domestic securities are more liquid than foreign ones.
Trade Volume: Although not a major factor, increase in trading volume of ETF positively contributes to the liquidity of it.
Trading volume of underlying stocks: The more the underlying stocks are traded the higher the liquidity of ETF.
Time, News and Market Forces: These ever changing factors affect the liquidity of all the traded instruments including ETFs.