Pricing efficiency of Saudi exchange traded funds (ETFs)

Abstract

Purpose

This paper aims to investigate the pricing efficiency of Saudi Sharia-compliant (i.e. Islamic) exchange-traded funds (ETFs).

Design/methodology/approach

The paper adheres to a positivist research philosophy with a deductive research approach where data is collected, analyzed and interpreted to examine a hypothesis. Ordinary least squares (OLS) regressions are applied to investigate pricing efficiency and persistence.

Findings

The results show that Saudi ETFs do not currently offer proper diversification for investors, possibly due to their low trading volumes and the delays of market prices in reflecting net asset value (NAV). On average, ETFs trade at a premium to their NAVs. Moreover, the authors find that the deviations of ETF prices from their NAVs (i.e. premiums or discounts) do not disappear in one day. The results reveal a significant positive relationship between the trading volume of Saudi ETFs and volatility, a significant positive correlation between ETF returns and contemporaneous deviations and a significant negative relationship between returns and lagged deviations. These findings can be interpreted as evidence against the market efficiency of Saudi ETFs.

Practical implications

Individual and institutional investors can use Saudi ETFs, especially as their efficiency improves with increased trading volume (liquidity). Saudi regulators must increase their efforts to educate market participants and expand the availability of information to enhance transparency and awareness of the benefits of investing in ETFs, which will positively affect liquidity and pricing efficiency in the future.

Originality/value

This paper is the first to perform empirical tests on Saudi ETFs. Saudi Arabia deserves further attention because it is the most significant stock market in the Gulf Cooperation Council and only recently allowed foreigners to participate.

Citation

Almudhaf, F. and Alhashel, B. (2020), "Pricing efficiency of Saudi exchange traded funds (ETFs)", Journal of Islamic Accounting and Business Research, Vol. 11 No. 4, pp. 793-809. https://doi.org/10.1108/JIABR-06-2017-0082