Financial markets faced a multitude of headwinds as never before.

Exchange-traded funds, the innovative financial products that sprung from the calamitous financial crisis of 2008, have played a calming role in the recent market mayhem. (MarketWatch)

Over the years, investors have plowed in trillions of dollars into these inexpensive products, giving the cold shoulder to mutual and hedge funds. As at end of December, assets invested in the global ETF/ETP industry reached a new record of $6.35 trillion.

ETFs’ clout in terms of the trading volume

As a result, ETFs have become a very sizable component of the market. According to iShares, ETFs/ETNs comprised 38% of US equity market trading activity during the last week of February. This was a highly volatile period for stocks. They, therefore, have become a very important barometer of investor sentiments.

With these vehicles commanding so much clout in trade, one industry expert went so far as to say that they had, quite literally, become the market.

Their role in the market crisis

What role did exchange-traded funds play in the recent market crisis? With striking disconnects being observed in the bond market, and the market confronted by various crises, ETFs perhaps played a salutary role.

Note that the financial markets faced multiple whammies this time. The oil price war and crash, the coronavirus pandemic, the recessionary fear from these events and the “no-holds-barred” crisis management moves by central banks across the globe.

In scope and size, this may dwarf the 2008 crisis.

However, according to Dave Nadig, chief investment officer and director of research at ETF Flows, ETFs probably played the role of a “release valve” during this period. They did this by allowing investors to play out their sentiments in the market. “If all this volatility was hitting single stocks, it would be a disaster,” Nadig said.

ETFs have also been thrust into a new role in price discovery. This was observed when markets recently shut on multiple occasions due to circuit breakers kicking in. They turned into valuable pointers of how the market will open when, for instance, futures are locked ‘limit down.’

Related Story: Liquid Alternatives: Innovator’s Defined Outcome ETFs – Prepare For Market Volatility

Image Credit: Flickr