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Index-Linked Investing—A Curse for the Stability of Financial Markets around the Globe?

Lidia Bolla, Alexander Kohler and Hagen Wittig
The Journal of Portfolio Management Spring 2016, 42 (3) 26-43; DOI: https://doi.org/10.3905/jpm.2016.42.3.026
Lidia Bolla
is a managing partner at Algofin AG in St. Gallen, Switzerland.
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  • For correspondence: lidia.bolla@algofin.ch
Alexander Kohler
is a manager at Deloitte Consulting AG in Zurich, Switzerland.
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  • For correspondence: akohler@deloitte.ch
Hagen Wittig
is a managing partner at Algofin AG in St. Gallen, Switzerland.
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  • For correspondence: hagen.wittig@algofin.ch
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Abstract

The authors analyze the development of various risk commonalities in Europe and the United States, as well as in emerging markets, and find a substantial increase in the co-movements in trading patterns, price returns, and liquidity risk within equity markets. They test the hypothesis that index-linked investing is a major driver for the increase in risk commonality. By aggregating the data in a cross-regional perspective, the authors capitalize on the different levels of indexation in the markets and find statistically significant and economically relevant evidence that the growth in index-linked investing is related to the increased co-movement within equity markets. The results suggest a significant increase in market fragility around the globe, leading to an increased danger of more severe reactions to unanticipated events going forward. Portfolio managers are well-advised to account for the increased proportion of index-linked investing within their risk management tools, diversification approaches, and active management strategies.

TOPICS: Emerging, in markets, manager selection

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The Journal of Portfolio Management: 42 (3)
The Journal of Portfolio Management
Vol. 42, Issue 3
Spring 2016
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Index-Linked Investing—A Curse for the Stability of Financial Markets around the Globe?
Lidia Bolla, Alexander Kohler, Hagen Wittig
The Journal of Portfolio Management Apr 2016, 42 (3) 26-43; DOI: 10.3905/jpm.2016.42.3.026

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Index-Linked Investing—A Curse for the Stability of Financial Markets around the Globe?
Lidia Bolla, Alexander Kohler, Hagen Wittig
The Journal of Portfolio Management Apr 2016, 42 (3) 26-43; DOI: 10.3905/jpm.2016.42.3.026
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