A Liquidity-Based Theory of Closed-End Funds

50 Pages Posted: 24 Mar 2005

See all articles by Martin Cherkes

Martin Cherkes

NYU

Richard Stanton

University of California, Berkeley - Haas School of Business

Jacob S. Sagi

University of North Carolina Kenan-Flagler Business School

Multiple version iconThere are 2 versions of this paper

Date Written: 2006

Abstract

This paper develops a rational, liquidity-based model of closed-end funds (CEFs) that provides an economic motivation for the existence of this organizational form: They offer a means for investors to buy illiquid securities, without facing the potential costs associated with direct trading and without the externalities imposed by an open-end fund structure. Our theory predicts the patterns observed in CEF IPO behavior and the observed behavior of the CEF discount, which results from a tradeoff between the liquidity benefits of investing in the CEF and the fees charged by the fund's managers. In particular, the model explains why IPOs occur in waves in certain sectors at a time, why funds are issued at a premium to net asset value (NAV), and why they later usually trade at a discount. We also conduct an empirical investigation, which, overall, provides more support for a liquidity-based model than for an alternative sentiment-based explanation.

Keywords: theory of closed-end funds

JEL Classification: G14

Suggested Citation

Cherkes, Martin and Stanton, Richard H. and Sagi, Jacob, A Liquidity-Based Theory of Closed-End Funds (2006). EFA 2006 Zurich Meetings; Sixteenth Annual Utah Winter Finance Conference. Available at SSRN: https://ssrn.com/abstract=799804

Martin Cherkes

NYU ( email )

44 West 4th Street
Suite 9-160
New York, NY NY 10012
United States

Richard H. Stanton (Contact Author)

University of California, Berkeley - Haas School of Business ( email )

Haas School of Business
545 Student Services Building #1900
Berkeley, CA 94720-1900
United States
(510) 642-7382 (Phone)
(510) 643-1412 (Fax)

Jacob Sagi

University of North Carolina Kenan-Flagler Business School ( email )

Kenan-Flagler Business School
Chapel Hill, NC 27599-3490
United States

HOME PAGE: http://public.kenan-flagler.unc.edu/faculty/sagij/

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
701
Abstract Views
3,111
rank
37,688
PlumX Metrics