Tax Calendar Effects in the Municipal Bond Market: Tax‐Loss Selling and Cherry Picking by Investors and Market Timing by Fund Managers

Examining municipal bond returns, bond fund flows and buying activities by fund managers over the period 1990–2009, we find evidence of tax calendar‐related rational opportunistic trading patterns by fund investors and fund managers. Specifically, fund shareholders conduct tax‐loss selling in December and re‐invest in January. In April, June, and September, fund investors rationally cherry pick to sell their shares of short‐term bond funds instead of their shares of long‐term bond funds to raise cash to pay estimated taxes. Unlike fund shareholders, fund managers adopt a contrarian strategy of buying in December and selling in January.     

ALL THINGS CONSIDERED,TAXES DRIVE THE JANUARY EFFECT

The multitude of explanations for the January effect leaves the reader confused about its primary cause(s): is it tax‐loss selling, window dressing, information, bid‐ask bounce, or a combination of these causes? The confusion arises, in part, because evidence has generally been presented in support of a particular hypothesis though the same evidence may be consistent with another hypothesis. Furthermore, prior work does not adequately control for the bid‐ask bounce. In this article we try to disentangle different explanations of the January effect and identify its primary cause. We find that tax‐related selling is the most important cause, overshadowing other explanations.     

Can Tax-Loss Selling Explain the January Seasonal in Stock Returns?

This paper analyzes the tax-loss selling hypothesis as an explanation of the January seasonal in stock returns and argues that rational tax-loss selling implies little relation between the January seasonal and the long-term loss. Empirical results show that the January seasonal is as strongly related to the long-term loss as it is to the short-term loss. The evidence is inconsistent with a model that explains the January seasonal by optimal tax trading.     

Investor behaviour in response to Australia’s capital gains tax

We calibrate the effect of Australia’s Capital Gains Tax (CGT) on share prices and market activity. Based on a large sample drawn from all listed Australian companies for the years 1994–2007, we find significant tax‐loss selling (TLS) of shares that lost value over the financial year, which is reflected in unusually high trading volume and more sell orders in June and a rebound in July. There is some evidence that small mining stocks are particular targets for TLS. Interestingly, the 1999 CGT reforms, which introduced concessions for long‐term capital gains, did not reduce the incidence of TLS.     

Retail investors exonerated: the case of the January effect

We dispel the belief that the January effect is due to retail investor trading. Previous studies suggest that retail investors, affected by behavioural biases and disproportionally invested in small capitalization stocks, are the source of the January effect. Furthermore, the literature regards retail investor trading and the tax‐loss selling hypothesis as essentially the same explanation. We separate tax implications and market capitalization to show that retail traders are not the cause of the January effect. Our study is an important direct test of whether retail trading causes market anomalies.     

Does the accruals quality premium arise from information risk?

In this study, we examine whether the accruals quality premium arises from information risk through the following: (i) an investigation of the accruals quality (AQ) premium conditioned by market competition levels; (ii) a test of the impact of an exogenous shock on tax‐loss‐selling incentives; and (iii) an examination of the quality of specific accruals. Consistent with an information risk explanation, we find that the pricing effect of AQ is concentrated in firms with low market competition; that tax‐loss selling is unlikely to explain the observed AQ premium; and that specific accruals quality measures which are more likely to reflect information risk are priced.     

Stock return seasonalities and the tax-loss selling hypothesis: Analysis of the arguments and Australian evidence

A ‘tax-loss selling’ hypothesis has frequently been advanced to explain the ‘January effect’ reported in this issue by Keim. This paper concludes that U.S. tax laws do not unambiguously predict such an effect. Since Australia has similar tax laws but a July–June tax year, the hypothesis predicts a small-firm July premium. Australian returns show pronounced December–January and July–August seasonals, and a premium for the smallest-firm decile of about four percent per month across all months. This contrasts with the U.S. data in which the small-firm premium is concentrated in January. We conclude that the relation between the U.S. tax year and the January seasonal may be more correlation than causation.     

Mutual Fund Tax Clienteles

Mutual funds are held by investors in taxable and tax‐qualified retirement accounts. We investigate whether the characteristics, investment strategies, and performance of mutual funds held by these diverse tax clienteles differ. Examining both mutual fund distributions and mutual fund holdings, we find that funds held primarily by taxable investors choose investment strategies that result in lower tax burdens than funds held primarily in tax‐qualified accounts. Despite these differences, we find no evidence that any investment constraints that may arise from these tax‐efficient investment strategies result in performance differences between funds held by different tax clienteles.     

The pricing of firms with expected losses/profits: The role of January

We examine the role of January in the relation between expected losses/profits and future stock returns. We predict and find that the relation between expected losses/profits and future returns reverses from the usual positive relation in non‐January months to a negative one in January. The reverse January relation is consistent across sample years, is observed in the United States and international markets, and is incremental to other variables associated with January returns. At least part of the reverse January relation is explained by tax‐loss selling. Further analysis shows that the reverse January relation results in a temporary price drift away from fundamental value. In other words, we find that abnormal positive (negative) future returns do not always indicate past under(over)valuation. Overall, our results illustrate the importance of controlling for the effect of January when examining how investors price expected losses/profits.     

The anomalous stock market behavior of small firms in January: Empirical tests for tax-loss selling effects

Small firms experience large returns in January and exceptionally large returns during the first few trading days of January. The empirical tests indicate that the abnormally high returns witnessed at the very beginning of January appear to be consistent with tax-loss selling. However, tax-loss selling cannot explain the entire January seasonal effect. The small firms least likely to be sold for tax reasons (prior year ‘winners’) also exhibit large average January returns, although not unusually large returns during the first few days of January.     

STOCK MARKET SEASONALITY AND TAXES: AN EXAMINATION OF THE TAX-LOSS SELLING HYPOTHESIS

Recent empirical studies have found evidence that supports the tax loss selling explanation of seasonal effects in stock returns. Using other test procedures, the present authors conclude that the support found in other studies is likely to be the result of spurious correlation between returns of stocks selected as tax-loss selling candidates and the January returns of these stocks.     

Taking the Long Way Home: U.S. Tax Evasion and Offshore Investments in U.S. Equity and Debt Markets

We empirically investigate one form of illegal investor‐level tax evasion and its effect on foreign portfolio investment. In particular, we examine a form of round‐tripping tax evasion in which U.S. individuals hide funds in entities located in offshore tax havens and then invest those funds in U.S. securities markets. Employing Becker's ( 1968 ) economic theory of crime, we identify the tax evasion component by examining how foreign portfolio investment varies with changes in the incentives to evade and the risks of detection. To our knowledge, this is the first empirical evidence of investor‐level tax evasion affecting cross‐border equity and debt investment.     

Evidence on Tax-Motivated Securities Trading Behavior

Tax-loss selling by investors in common stocks near the end of calendar years has been proposed as an explanation for the turn-of-the-year effect in stock returns. Past analyses of this hypothesis have relied on inferential data. We provide here some direct data from a compilation of over 80,000 actual common stock investment round trips by a sample of 3000 individual investors. We find strong evidence of a concentration of loss-taking trades late in the year and milder evidence of a concentration just prior to the dates when investments become eligible for long-term tax treatment.     

Motivation and Performance of Seasoned Offerings by Closed-End Funds

We examine the motivation and performance of closed‐end funds that engage in seasoned public or rights offerings. We find that closed‐end funds are more motivated to engage in seasoned offerings when their shares exhibit a relatively high premium (compared to their corresponding NAV) and have a high degree of liquidity. We also find a significant negative valuation effect on average in response to seasoned offerings by closed‐end funds. Our cross‐sectional analysis reveals that the valuation effect at the time of the seasoned offering is more unfavorable for funds that have relatively high expense ratios and are relatively large. Furthermore, we find that the closed‐end funds experience significant negative valuation effects over the three‐year period subsequent to the seasoned offering, implying poor post‐offering performance.     

上市公司限售股转让税收政策研究

自2010年1月1日实施对个人转让限售股征收20％的个人所得税以来，通过法人转股给自然人进行避税的方式不再有效，但是各种新的避税方式仍层出不穷。对当前限售股转让的避税方式及其制度根源进行深入探讨，可以进一步完善当前税收政策的对策，使其充分发挥税收调节收入分配的职能。     

The tax-loss selling hypothesis,market liquidity,and price pressure around the turn-of-the-year

In this paper, we use intra-day data for all stocks listed on the ISSM and provide new and direct evidence consistent with the tax-loss selling hypothesis. We find that (a) there is abnormal selling pressure prior to the year-end for stocks that have experienced large capital losses in the current and prior years (b) investors delay realizing capital gain by postponing the sale of capital gain stocks until after the new year (c) there is a significant decrease in the average trade size for stocks with large capital losses before the year-end and for stocks with capital gains in the new year, which suggests that individuals, rather than institutional investors, are the major sellers around the year-end (d) the tax-loss selling hypothesis, and not firm size or share price, is the fundamental explanation for abnormal January returns. Further, small or low share priced firms with capital gains do not experience abnormal returns in January. However, conditional on capital losses, small or low share priced firms magnify the turn-of-the-year effect (e) On average, the increase in selling activity adversely affects market liquidity by increasing bid-ask spreads and reducing depths. (f) The tax-loss selling pressure not only causes the price to be at the bid at the year-end, it also temporarily depresses the equilibrium price indicating the short run demand curve is not perfectly elastic (g) the year-end buying activity suggests that large investors buy capital loss stocks prior to the year-end to take advantage of the temporarily depressed price and capital gain stocks after the new year to reinvest the proceeds of the tax-loss selling.     

Tax Deferral and Mutual Fund Inflows: Evidence from a Quasi‐Natural Experiment

We propose a new method to identify the impact of a change in the tax burden on mutual fund inflows. We use quasi‐experimental data from Italy where, starting from July 2011, the tax regime for domestic mutual funds was changed from an accruals basis to a realisation basis, while the taxation of foreign funds remained on a realisation basis. We find that the reform has had a positive effect on net inflows of Italian funds (the treated group) with respect to foreign funds (the control group). The effect is both economically and statistically significant. Moreover, there is no evidence that the increase in the demand for Italian funds came at the expense of foreign funds.     

Capital Gains Tax Overhang and Price Pressure

I study whether the capital gains tax is an impediment to selling by some investors and if so, to what degree associated delayed selling affects stock prices. I find that selling decisions by institutions serving tax‐sensitive clients are sensitive to cumulative capital gains, a pattern not observed for institutions with predominantly tax‐exempt clients. Moreover, tax‐related underselling impacts stock prices during large earnings surprises for stocks held primarily by tax‐sensitive investors. The corresponding price reactions are less negative (more positive) with higher cumulative capital gains. This price pressure pattern is more severe when arbitrage is more costly.     

The Performance of Local versus Foreign Mutual Fund Managers

In this paper we examine the performance of US equity funds (locals) versus UK equity funds (foreigners) also investing in the US equity market. Based on informational disadvantages one would expect the UK funds to under‐perform the US funds, especially in the research‐intensive small company market. After controlling for tax treatment, fund objectives, investment style and time‐variation in betas, we do not find evidence for this. In the small company segment we even find a slight out‐performance for UK funds compared to US funds. Finally we observe a home bias in the UK portfolios, which is partly attributable to UK funds investing in cross‐listed stocks in the USA.     

Indirect tests of the Haugen-Lakonishok small-firm/January effect hypotheses: window dressing versus performance hedging

Equity mutual fund data from 1976–1993 is used to test hypotheses that distinguish window dressing from performance hedging. No significant difference is found pre/post 1983 in the number of funds choosing non-December fiscal year ends or in the percentage of dollars invested when comparing December/non-December fiscal year ends. Significant differences are found in both January returns for mutual funds with December/non-December fiscal year ends and in one month returns for funds with/without a fiscal year end in the previous month. Therefore, if the small-firm/January effect is portfolio manager related, performance hedging, not window dressing, is the more probable source for the “excess” returns.