The Tax-Timing Option and the Discounts on Closed-End Investment Companies

Abstract

For all options, including tax-timing options, a portfolio of options is more valuable than an option on the corresponding portfolio. This observation is consistent with the puzzling empirical regularity that closed-end funds sell at discounts from their net asset value. Consistent with this theory, the authors' results show that, cross-sectionally, the discounts are positively correlated with the average variance of the constituent assets in the fund and that in time series the value of the discount varies countercyclically. Estimation of a specific model was not sufficiently precise to provide additional insights into the pricing of tax-timing options. Copyright 1991 by University of Chicago Press.