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Closed-end funds - Essay Example

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Closed-end funds can serve as a perfect illustration for limitations of many theoretical assumptions. Concerns of many researchers from US and UK trying to explain closed-end funds, which differ from open-end funds with a fixed limited number of shares on the stock market, deserve serious attention…

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Closed-end funds

19). Nevertheless the US and the UK markets are more similar than different, that is why we can extend results acquired from one market to another, but with some corrections made. This paper consists of two parts. The first part provides an explanation for the closed-end fund puzzle from the behavioral perspective. The second part deals with further tests, which can be used to verify the investor sentiment explanation.
Unlike economic theories trying to explain the closed-end fund puzzle with rational assumptions (e.g. tax liabilities), behavioral theories imply that there is some amount of irrationality on the market. It is called "noise trader sentiment" - the component of expectations about asset returns not warranted by fundamentals.
Basic assumptions of investor sentiment explanations are as follows:some of the investors are not fully rational, and their demand for risky assets is affected by their beliefs or sentiments; arbitrage is risky and therefore limited. However, researchers advise not to fall into opposite extreme: "It is absolutely not true that introducing a degree of irrationality of some investors into models of financial markets eliminates all discipline and can explain everything" (Shleifer and Summers 1990, pp. 19-20). ...
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