ETFs' Asset Value is Increasing, Trading Volume Remains Stable

Financial Times reports that the daily trading volume in the 50 most traded US ETFs in this January and last December was at its historical lows, dropping to the level of the end of 2007. This is surprising since over the past decade the total asset value of ETFs have increased from its 2002 level of $102 billion to just over $1 trillion in 2011 according to the Investment Company Institute. Below we plot the ETF total asset value over the last decade.




Intuitively, one would expect as asset value increases, trading volume also increases; however the level of trading activity has remained relatively stable over the past four years. Currently the total ETF trading volume, as measured by the trading activity of the 100 most heavily traded ETFs (excluding those ETFs that were not yet traded at the beginning of 2007), is at approximately the same level as 2007. Below we plot the trading volume in our sample set of ETFs.




The popularity of ETFs is largely due to low transaction costs and this characteristic was supported by high liquidity in the past. Large institutional investors such as hedge funds usually prop up the trading volume, drive down the trading cost, thus implicitly providing a liquidity subsidy to retail investors. Times of low trading volume could be especially harmful to retail investors since trading becomes more expensive. Whether the current drop in the trading volume is transient or persistent, we'll keep a close eye on it.