ABSTRACT
This chapter argues that developments in exchange-traded funds (ETFs) and FinTech markets mark a qualitative shift in the function and interpretation of information. Whilst trading becomes quicker, nimbler and more voluminous under passive investment strategies augmented by automation, the role of information also changes in subtle ways. In particular, under these conditions, financial market prices will become increasingly self-referential. That is to say, investors in markets will no longer make investment decisions based upon information gathered by themselves or others – a hallmark of the efficient markets hypothesis (EMH) – but through acting on the trading of a smaller group of active traders. Misinformed trades by active traders in the markets may not be countered by other informed investors; rather, they would trigger more misinformed automated trades. These trading developments may undermine the price formation mechanism, especially if the composition of views amongst informed traders is skewed by behavioural biases in a particular direction. Importantly, the disruptive impact of certain automated trading reduces the incentive for information gathering, as these algorithmically driven vehicles free-ride on research by active traders and use their resources and speed to front-run their trades. One effect of these developments is a reduction in the informativeness of financial market pricing, which, if persistent enough, may cause systemic instability.
