The Impact of CSI 300 Index Futures Introduction on Underlying Stock Liquidity

This paper examines liquidity in the China stock market around the introduction of the CSI 300 Index Futures contract. Two competing hypotheses are tested. Liquidity of constituents stocks in the underlying index may worsen as passive and uninformed investors migrate to the futures market. On the other hand, underlying stock market liquidity may improve if the index futures attract more informed investor and promote price discovery through the creation of a short selling avenue. Analysis in this study suggests that liquidity of the CSI 300 stocks decreases after the introduction of the CSI 300 Index Futures, after controlling for factors generally known to affect stock liquidity such as volume and volatility. We investigate the subject further by considering commonality in liquidity, and find that the results are robust after controlling for market wide conditions. This study further tests the effect of the introduction of the stock index futures on the volatility of the index, and finds an increase in conditional volatility in under the GARCH (1, 1) framework