Articles
DOI DOI: 10.5281/zenodo.18435806

Liquidity, Volatility, and ETF Arbitrage in Canadian Equity Markets Evidence from Stress Episodes

Byung Soo Lee1
  1. 1 University of Toronto – Rotman School of Management

Abstract

This paper examines the interaction between market liquidity, volatility, and
exchange-traded fund (ETF) arbitrage activity in Canadian equity markets, with
a particular focus on periods of financial stress. Using high-frequency and daily
market data, the study analyzes how deviations between ETF prices and their
net asset values (NAVs) evolve under heightened volatility and constrained
liquidity conditions. The empirical framework exploits stress episodes
characterized by sharp volatility spikes and funding frictions to identify changes
in arbitrage intensity and price efficiency. Results indicate that during stress
periods, liquidity deterioration and elevated volatility significantly widen
ETF price–NAV deviations, reflecting limits to arbitrage faced by authorized
participants. These effects are more pronounced in equity ETFs with less liquid
underlying assets. The findings highlight the role of ETFs as both liquidity
providers and transmitters of market stress, with important implications for
market resilience and regulatory oversight in concentrated equity markets such
as Canada.

How to Cite

Lee, B. S. (2026). Liquidity, Volatility, and ETF Arbitrage in Canadian Equity Markets Evidence from Stress Episodes. Transnational Academic Journal of Economics, 3(1), 90–110. https://doi.org/10.5281/zenodo.18435806
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