When passive funds affect prices: evidence from volatility and commodity ETFs

Abstract This article studies exchange-traded funds’ (ETFs) price impact in the most ETF-dominated asset classes: volatility (VIX) and commodities. I propose a new way to measure ETF-related price distortions based on the specifics of futures contracts. This allows me to isolate a component in VIX futures prices that is strongly related to the rebalancing of ETFs. I derive a novel decomposition of ETF trading demand into leverage rebalancing, calendar rebalancing, and flow rebalancing, and show that trading against ETFs is risky. Leverage rebalancing has the largest effects on the ETF-related price component. This rebalancing amplifies price changes and exposes ETF counterparties to variance.