We examine whether and how the indexing strategy used by ETFs affects prices of constituent assets in experimental markets. We study this issue in both the primary market (ETF creations and redemptions using bots as Authorized Participants) and in the secondary market (trades of existing ETF assets). The experiment includes three different environments: (i) no ETF index assets, (ii) an equal weighted ETF index asset, and (iii) a market cap weighted ETF index asset. We find that ETF products significantly affect the value of the constituent assets, and in particular the value of assets that are in shortest supply. For such assets, we find a much larger bid-ask spread when the ETF index asset is equally weighted than when it is weighted by market capitalization.

Keywords: asset pricing, ETFs, experimental finance