13 May 2022 5 min read

Russia's invasion of Ukraine hit risk assets hard. Have ETFs helped investors manage uncertainty?

By Carolina Carloni

ETFs have a reputation as price-discovery tools at times of market stress. We unpack the data to test this assumption.


How has the market for exchange-traded funds (ETFs) reacted to the Ukraine conflict in terms of primary and secondary market volumes?

In turbulent times, ETFs are often key parts of investors’ toolkits as they seek to rebalance holdings and hedge risks.

The unprecedentedly volatile market conditions caused by the advent of the COVID-19 pandemic in March 2020 provided a key demonstration of the liquidity ETFs can provide at times of market stress. There is a wealth of literature describing how they can act as price-discovery tools in scenarios where the underlying securities have been suspended, closed or extremely illiquid.

A practical example occurred on 9 March 2020 when trading in one of the most liquid instruments in the world – the E-mini S&P 500 futures – was halted during European market hours. This led to ETFs replicating the S&P 500 and becoming the main instruments providing investors with the ability to hedge and trade the most significant US equity index.

More recently, when the Russia/Ukraine conflict muddied markets in late February 2022, ETFs again proved their resilience and liquidity. As the invasion led to unprecedented financial sanctions against Russia by the west, ETFs tracking the Russian market continued to trade for a few days after the closure of the underlying stock market on Monday 28 February, meaning market makers were able to price the underlying Russian stocks by using fair value models or proxies such as emerging market futures.

Volumes rise as investors rebalance their portfolios

The early months of 2022 have been challenging for financial markets as inflation, volatility and uncertainty have all taken their toll.

Due to difficulties experienced accessing liquidity in underlying equity and fixed income markets, investors have increasingly turned to ETFs as a source of liquidity to allocate capital and manage risk in their portfolios. As we can see below, European ETF/ETP value traded increased more than 45% between Q4 2021 and Q1 2022, growing from €589 billion to €857 billion.



The market has appeared to be very risk-off since the beginning of the conflict, and combined with sanctions this has meant everything related to Russia had been severely impacted.

However, the invasion and its consequences have meant some asset classes have started to gather investor interest: US Treasuries (safe haven in USD), energy stocks (Russia is the world’s second-largest oil producer and the largest provider of natural gas to Europe), and metals and commodities (pre-war, Russia and Ukraine together accounted for ~30% of global wheat exports).

While it may be natural to assume that in this period there would be mainly sellers and few buyers, this has not proved to be the case.

Amid all the uncertainty of 2022, between January and February we saw an increase in secondary market activities (up more than 14%, then a further 4% or so in March), while the ratio of secondary market versus primary market volumes remained constant or slightly increased across all the LGIM UCITS ETFs, as we can see below:



This provides a clear signal that investors did not rush to sell their ETF investments, with ‘natural’ buyers and sellers exchanging their positions in the secondary market without needing to sell securities in the underlying markets.

The secondary market acted as a liquidity buffer, and even in extreme market circumstances we did not see a sharp decrease in the ratio between secondary and primary markets.

Claims that market makers and authorised participants (APs) would break down in times of market stress, with APs stepping away from their positions to reduce risk, proved inaccurate.

Instead, the ETF ecosystem responded efficiently amid the increasing volumes and volatility, becoming something of a ‘safe haven’ in a period when some markets had closed or during periods of rapidly vanishing liquidity.

The cost of liquidity

Bid-ask spreads for all securities tend to widen in times of market uncertainty as market makers seek to price in risk.

The lack of liquidity in the underlying securities and the exceptional level of volatility was likely responsible for this widening in early 2022, due to higher trading volumes and the hedging costs that market makers faced.

All LGIM UCITS ETFs continued to trade as usual during the turmoil. However, liquidity came at a cost as spreads widened in line with the broader European ETF/ETP industry (see below).


Stability in turbulent times

Nonetheless, even under the challenging circumstances, we were able to accommodate all our investors’ trading requests and we did not see any pricing issues from our market makers on either emerging market bonds or equity ETFs – the two asset classes most affected by the uncertainty deriving from the conflict.

Despite the market’s low mood and high volatility in recent months, ETFs have again demonstrated how they can add stability to capital markets, offering both liquidity and market access to a wide range of market participants.

Carolina Carloni

Senior ETF Capital Markets Specialist, Index Funds / Index

Carolina Carloni is responsible for LGIM's ETF Capital Markets function. Carolina joined LGIM in 2022 from Invesco where she held the title of ETF Capital Markets Specialist focused on developing and enhancing the liquidity and trading ecosystem for Invesco UCITS ETFs. Prior to that, she worked at the London Stock Exchange Group and First Trust in various roles on Exchange Traded Products (ETPs) and Open-end Funds. Carolina completed her Master's degree in Financial Markets and Institutions from Bologna University, Italy where she also earned her Bachelor of Economics and Finance. Carolina spent part of her academic career a la Universidad Complutense de Madrid.

Carolina Carloni