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Philipp Grueber

is a doctoral candidate at the Chair for Corporate Finance and Capital Markets of the EBS Universität für Wirtschaft und Recht in Wiesbaden, Germany. He earned his Master of Science at EBS Business School in 2008. His research concentrates on financial econometrics with focus on market liquidity, the interaction among funding markets and asset markets, and high-frequency finance. Besides his research, Philipp is working for a venture fund located in Frankfurt, Germany.

How Funding Liquidity drives Arbitrage Activity -- New Evidence from the German Index ETF and Index Futures Markets

Despite the largely offsetting risk exposure of aggregate arbitrage positions, arbitrageurs depend on funding markets because they are required to collateralise each side of an arbitrage deal separately. We provide empirical evidence that as their funding gets tight, arbitrageurs significantly reduce their operations and thus, cause markets of similar assets to fall apart. Interestingly, our results reveal that fluctuations in funding costs have larger effects on the level of market integration when funding is tight already. This non-linearity may relate to self-enforcing market dry-up mechanisms: In response to arbitrageurs' liquidity withdrawals and poor market integration, trading risks grow and most likely, cause haircuts to increase. Moreover, arbitrageurs may become more risk averse when their wealth deteriorates. We investigate th looking at exchange traded funds (ETFs) and futures on the German blue chip index DAX. More precisely, we measure the daily proceeds from arbitrage activity in these markets that could be gained by arbitrageurs -- even when considering the contemporary bid-ask spread -- but for some reason are ``left on the table''. Our findings provide strong support for some of the most recent theoretic contributions on the interaction between funding liquidity, market liquidity, and arbitrage mechanisms.

Last modified: 2018.11.30.