Are the Discounts for Closed-End Funds Big Enough?

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While many investors consider closed-end funds to be of good values because they are often sold at discounts, we found that to be not the case. On the contrary, closed-end funds in general are actually overvalued and greater discounts are necessary in most cases to bring their prices closer to their fair values. A valuation model for closed-end fund is developed in this paper using the constant growth model and the CAPM. The model may be considered a breakthrough in the field of closed-end funds since the theoretical value of the fund portfolio may now be estimated without a priori knowledge of its beta value or the need of resorting to regression analysis. Applying the model for World Equity Funds, we found that the level of discounts associated with most closed-end funds are not sufficient to account for the negative impact of expense on the income and risk of the funds. This is a surprise finding since this indicates that closed-end funds are in general overvalued and that even greater discounts may be necessary to make them priced fairly.

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International Journal of Finance

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