Investor Demand for Leverage: Evidence from Equity Closed-End Funds and and the Launch of Levered Exchange-Traded Funds

47 Pages Posted: 6 Nov 2018 Last revised: 20 Nov 2019

See all articles by Robert A. Dam

Robert A. Dam

University of Colorado at Boulder - Department of Finance

Shaun Davies

University of Colorado at Boulder - Leeds School of Business

S. Katie Moon

University of Colorado at Boulder - Leeds School of Business

Date Written: November 19, 2019

Abstract

We provide novel evidence that investor demand for leverage is both a causal and significant driver of equity closed-end fund (CEF) discounts. More levered funds trade at smaller discounts, despite having worse performance. The relation is not consistent with any rational story considered. We use the introduction of levered exchange-traded funds (ETFs) as a plausibly exogenous shock to establish causality. The discount on levered CEFs increases by 2.3 percentage points (an increase of 32%), despite their relative performance improvements after the entry of this new competition. Our results help explain the leverage puzzle in the cross section of returns and also provide new insights for studies that rely on CEF discounts as a measure of investor sentiment.

Keywords: Investor sentiment, leverage, levered closed-end fund, levered exchange-traded fund, non-fundamental demand

JEL Classification: G12, G14

Suggested Citation

Dam, Robert A. and Davies, Shaun and Moon, Katie, Investor Demand for Leverage: Evidence from Equity Closed-End Funds and and the Launch of Levered Exchange-Traded Funds (November 19, 2019). Available at SSRN: https://ssrn.com/abstract=3279748 or http://dx.doi.org/10.2139/ssrn.3279748

Robert A. Dam

University of Colorado at Boulder - Department of Finance ( email )

Campus Box 419
Boulder, CO 80309
United States
303-492-2289 (Phone)

Shaun Davies (Contact Author)

University of Colorado at Boulder - Leeds School of Business ( email )

Boulder, CO 80309-0419
United States

Katie Moon

University of Colorado at Boulder - Leeds School of Business ( email )

Boulder, CO 80309-0419
United States

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