Bank affiliation and discounts on closed-end funds

This study investigates whether investors value the bank affiliation of closed-end funds and analyzes whether investors treat funds differently because of their affiliated bank type, commercial or investment, and the size of their affiliated commercial bank, small or big. The analysis of the discounts on closed-end funds traded on Borsa Istanbul reveals that bank-affiliated funds trade at a lower discount than other funds, controlling for fund characteristics and market conditions. It is found that investors are willing to pay a higher price on funds affiliated with commercial banks, especially big ones, than bank-unaffiliated funds. However, discounts on all bank-affiliated funds increased more than discounts on unaffiliated funds during the banking crisis of 2000–2001 in Turkey suggesting that investors are willing to pay a trust premium to invest in funds that are affiliated with banks regardless of their type or size.     

Pricing of national index funds

This article investigates the pricing behavior of national index funds (NIFs). Under barriers to capital flows in an otherwise perfect capital market, the familiar result of zero premium/discount obtains. The more realistic assumption of imperfect cross-border arbitrage suggests that in a two country setting the NIFs will sell at a premium. In a multicountry framework, the investment barriers will result in NIFs generally trading at a premium, although theoretically one cannot rule out a discount from net asset value (NAV). A simple test supports the proposition that under investment barriers, NIFs should trade at a premium to NAV after controlling for the average domestic closed-end fund discount.     

A Liquidity-Based Theory of Closed-End Funds

This paper develops a rational, liquidity-based model of closed-endfunds (CEFs) that provides an economic motivation for the existenceof this organizational form: They offer a means for investorsto buy illiquid securities, without facing the potential costsassociated with direct trading and without the externalitiesimposed by an open-end fund structure. Our theory predicts thepatterns observed in CEF initial public offerings (IPOs) andthe observed behavior of the CEF discount, which results froma trade-off between the liquidity benefits of investing in theCEF and the fees charged by the fund's managers. In particular,the model explains why IPOs occur in waves in certain sectorsat a time, why funds are issued at a premium to net asset value(NAV), and why they later usually trade at a discount. We alsoconduct an empirical investigation, which, overall, providesmore support for a liquidity-based model than for an alternativesentiment-based explanation.     

Does Sentiment Explain Closed-end Fund Discounts? Evidence from Bond Funds

This paper documents that discounts and premia on closed-end bond funds exhibit the same sensitivity to broad market returns as stock fund discounts. Despite this, stock funds sell on average at discounts from net asset value while bond funds sell at small premia. This pattern calls into question the conclusion that the average level of the discount rate can be rationalized by appealing to the systematic nature of discount risk. These results indicate that appeals to investor sentiment, which have been hypothesized as a source of fund discounts, do not fully resolve the puzzle of closed-end fund discounts.     

Diversification in lottery-like features and portfolio pricing discount: Evidence from closed-end funds

Why do portfolios often trade at discounts relative to the sum of their components? I provide a new explanation based on the diversification in lottery-like features. I argue that portfolios trade at discounts when their components exhibit a strong lottery-like feature but a low tendency of producing extreme payoffs together. This discount can be partially mitigated if lottery-like components tend to produce extreme payoffs at the same time. I use the closed-end fund setting to provide empirical supports for this explanation. My findings support prospect theory from an alternative perspective and provide a novel explanation for the closed-end fund puzzle.     

Are IPO investors rational? Evidence from closed-end funds

Why buy a closed-end fund at IPO, when it is likely to trade at a discount in a few months’ time? One theory suggests that buying a new fund is justified by an initial period of investment outperformance. A second theory is that new funds are launched to provide access to assets that are temporarily illiquid and to exploit the subsequent liquidity gain while a third theory asserts that buyers of new issues are not fully rational but are influenced by time-varying sentiment. This paper tests the three theories using data from UK-traded closed-end equity-fund IPOs over 1984–2006. The empirical results provide strong support for the influence of sentiment but provide little or no support for the two other theories.     

Investor Sentiment and the Closed-End Fund Puzzle

This paper examines the proposition that fluctuations in discounts of closed-end funds are driven by changes in individual investor sentiment. The theory implies that discounts on various funds move together, that new funds get started when seasoned funds sell at a premium or a small discount, and that discounts are correlated with prices of other securities affected by the same investor sentiment. The evidence supports these predictions. In particular, we find that both closed-end funds and small stocks tend to be held by individual investors, and that the discounts on closed-end funds narrow when small stocks do well.     

Forecasting the returns on UK investment trusts: a comparison

The well known fact that investment trusts (closed-end mutual funds in the USA) trade at a discount means that the return to an investor depends not only on the change in net asset value (NAV), but also on changes in the discount over the holding period. Using daily data, this paper models the relationship between UK investment trust prices and NAV's using cointegration methodology then shows that the forecasts based on the, error correction mechanism (ECM) compare poorly with those from vector autoregressions. And then incorporates a number of modifications to the ECM in an attempt to improve the forecasts. In particular, modelling volatility persistance and allow for asymmetric resonses in the ECM.     

Fee Variation in Private Equity

We study how investment fees vary within private equity funds. Net-of-fee return clustering suggests that most funds have two tiers of fees, and we decompose differences across tiers into both management- and performance-based fees. Managers of venture capital funds and those in high demand are less likely to use multiple fee schedules. Some investors consistently pay lower fees relative to others within their funds. Investor size, experience, and past performance explain some but not all of this effect, suggesting that unobserved traits like negotiation skill or bargaining power materially impact the fees that investors pay to access private markets.     

Why Does Performance Persistence Vary Among Closed-End Funds?

This study extends the research on closed-end fund performance persistence by investigating whether the persistence of both net asset value (NAV) and market price returns of U.S. registered closed-end funds is related to various fund characteristics. The sample consists of 505 closed-end funds, which are investigated over the period from January 1976 to December 1996. The analysis tests whether persistence is related to the fund characteristics size, goal, management fees, turnover, fund family membership, fund experience, and the exchange on which a fund is traded. The results vary across holding periods used to calculate persistence but are similar with respect to the NAV and market price returns. Funds with lower expense ratios and funds traded on the NYSE show more persistence of strong NAV and market price performance.     

Valuation scepticism,liquidity benefits and closed‐end fund premiums/discounts: evidence from fair value disclosures

Closed‐end fund investors may view assets valued using level 2 and 3 inputs more sceptically because of the subjectivity of these inputs (valuation scepticism), or these assets could be viewed favourably because they allow small investors to access illiquid securities (liquidity benefit). We find that funds holding level 3 assets have higher value when funds trade at a premium, but lower value when funds trade at a discount. Both of these effects are magnified for funds with higher levels of unrealized appreciation. Our results suggest that liquidity benefit (valuation scepticism) is more important when funds trade at a premium (discount).     

Dividend policy,signaling, and discounts on closed-end funds

We test the predictions of dividend signaling models using closed-end equity funds that adopt explicit policies committing them to pay minimum dividend yields. These policies represent deliberate attempts to reduce share price undervaluation relative to NAV. Funds that adopt minimum dividend policies experience reductions in their share price discounts, trade at smaller discounts than other funds, earn greater excess returns following policy adoption, and their managers survive longer than other managers do. The results are broadly consistent with the predictions of dividend signaling models, and suggest that high quality closed-end funds can reduce undervaluation via dividend policy.     

Closed-End Fund Discounts with Informed Ownership Differential

We develop a multiasset trading model to examine the closed-end fund discount. The model shows that the discount can arise if the quality of private information in the underlying assets is sufficiently better than in the fund. The model also indicates that a discount (premium) can arise if the excessive volatility of the fund dominates (is dominated by) the fund's diversification benefit. Moreover, the model predicts a negative relation between the discount and the institutional ownership differential, as arbitrageurs prefer funds with large discounts. Using a sample of U.S. equity closed-end funds, we test these predictions and find supporting evidence. Journal of Economic Literature Classification Numbers: D82, G10, G12, G14.     

Large market shocks and abnormal closed-end-fund price behaviour

This paper investigates the short-term price behaviour of closed-end funds following eight large market-wide shocks. The findings, from a sample of 63 funds continuously traded on the London Stock Exchange, indicate that prices overreact relative to equilibrium given by net asset values. The speed of reversion in discounts following market-wide shocks is slower than that following fund-specific shocks of a similar magnitude. The post-shock persistence in discounts is related more to the ease of arbitrage rather than to liquidity, as proxied by fund size, or to the speed of recovery in the broader market. The discount decays more slowly for those funds that are difficult to arbitrage.     

Closed-End Funds: A Survey

This survey reviews the evolving literature on closed-end fund discounts. Many studies have attempted to explain the existence and the behavior of the discount to net asset value, emphasizing biases in the calculation of NAV, agency costs, tax-timing options and market segmentation. None has been able to provide a full explanation. As a result, some researchers have found it necessary to resort to models of limited rationality. This gives rise to potential opportunities for exploiting the discount. We summarize the findings from over 70 studies of closed-end funds, and present directions for future research.     

Information,sophistication, and foreign versus domestic investors’ performance

Using an intraday transaction dataset with trader identity, we study foreign and domestic investors’ trading activities and investment performance ahead of open-ending events of Taiwanese closed-end funds. Simply buying the funds at a discount and holding until open-ending generates large abnormal returns. All information required to execute this strategy is made public, so the events set up natural experiments to examine how investors trade, holding constant access to information. Foreign investors are net buyers ahead of the open-endings, more than doubling their positions and earning large abnormal returns. Domestic investors are net sellers while the discounts are still large, and forego large abnormal returns. The results suggest that investor sophistication in interpreting the same information is potentially an important determinant of investment performance differences across foreign and domestic investors.     

An analysis of closed-end funds discounts viewed from a lack of redemption perspective

We examine the behavior of discounts for an extensive sample of U.S. closed-end funds (CEF) undergoing open-ending. Share prices increase and discounts reduce at the time of announcement. The 2-day abnormal return is approximately one half of the pre-announcement discount. We test and find support for the investor sentiment, transaction costs, and portfolio liquidity hypotheses controlling for fund characteristics, tax liability, and dividends yield. The role of investor sentiment declines following the announcement. We decompose the pre-announcement discount into its structural and idiosyncratic parts, and find that there is a greater reduction of the idiosyncratic part of the discount at the time of announcement. The correlation between discount of CEF undergoing open-ending and that of an index of similar funds declines as the CEF nears open-ending.     

Noise Trading, Costly Arbitrage, and Asset Prices: Evidence from Closed-end Funds

If arbitrage is costly and noise traders are active, asset prices may deviate from fundamental values for long periods of time. We use a sample of 158 closed-end funds to show that noise-trader sentiment, as proxied by retail-investor flows, leads to fluctuations in the discount. Nevertheless, we reject the hypothesis that noise-trader risk is the cause of the long-run discount. Instead we find that funds which are more difficult to arbitrage have larger discounts, due to: (1) the censoring of the discount by the arbitrage bounds, and (2) the freedom of managers to increase charges when arbitrage is costly.     

The relationship between mutual fund fees and expenses and their effects on performance

Fees charged by mutual funds include front-end load charges, deferred sales charges that decrease over time, redemption fees that are imposed whenever shares are sold, and 12b-1 fees. Fees may be justified if they allow the fund to lower other costs or improve performance. In this paper, we find that, on average, 12b-1 fees, deferred sales charges, and redemption fees increase expenses whereas funds with front-end loads generally have lower expenses. We also find that funds with 12b-1 fees and redemption fees, on average, earn higher risk adjusted returns but funds with front-end load charges earn lower risk adjusted returns.     

Short sale restrictions,differences of opinion,and single-country,closed-end fund discount

The purpose of this paper is to study the closed-end fund discount in Miller's (1977) framework. Miller's theory states that in the simultaneous presence of (1) short sale restrictions and (2) dispersion of investors' opinions, securities become overvalued. We show that discounts of single-country, closed-end funds are related to Miller's two conditions. Consistent with theoretical predictions, we find that neither dispersion of investor opinion nor short sale restrictions alone are positively related to the discount. However, when both conditions exist simultaneously, fund discounts increase.