Are ETFs good vehicles for diversification? New evidence for critical investment periods

Abstract

This paper discusses the real effects of diversification, risk, and performance for country-specific exchange-traded funds (ETF) investment vehicles, using a sample of twenty-two iShares for the period 2004–2015, which covers the global financial crisis. Typically, the delimitation of the periods of crises is based on noteworthy events, such as the collapse of Lehman Brothers. In this context, we consider an alternative approach to define the time frames to obtain a more detailed characterization of crisis periods, using a nonhierarchical clustering technique. This method comprises the clustering of the dates with similar ETF prices across countries, which allows the formation of relatively sequential time frames as a function of price volatility. We conclude that the benefits of diversification through this investment vehicle are limited, particularly in times of crisis, indicating the existence of contagion between funds that are indexes. Keywords: Clustering, Diversification, ETFs, Financial crisis, Principal component analysis, JEL classification: G11, C44, C61