Premium
Noise Trading, Costly Arbitrage, and Asset Prices: Evidence from Closed‐end Funds
Author(s) -
Gemmill Gordon,
Thomas Dylan C.
Publication year - 2002
Publication title -
the journal of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 18.151
H-Index - 299
eISSN - 1540-6261
pISSN - 0022-1082
DOI - 10.1111/1540-6261.00506
Subject(s) - arbitrage , risk arbitrage , fixed income arbitrage , asset (computer security) , economics , statistical arbitrage , index arbitrage , financial economics , business , econometrics , arbitrage pricing theory , monetary economics , capital asset pricing model , computer science , computer security
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.