The short selling feature of active ETFs enhances market efficiency by removing poorly performing managers and deterring low quality ones from entering, according to new academic research.
In a recent paper titled ETFs as a disciplinary device, authors including a Bank of International Settlements (BIS) economist and two Hong Kong University of Science and Technology researchers, found active ETF flows are five times more sensitive to performance than mutual funds since investors can establish short positions – ultimately producing outflows from the fund.
Meanwhile, only existing holders can create outflows from mutual funds.
The report found short sellers also tend to be good at identifying underperforming managers, with high levels of short selling a statistically significant predictor of negative alpha.
Active ETF managers therefore experience much tougher penalties for poor…
