Why are investment trust discounts so volatile?

Document description

Discount volatility is generally an important component of total risk for investment trusts but there is considerable cross-sectional variation in the magnitude of this discount volatility. These are interesting aspects of the closed-end fund puzzle, which have received little attention in the literature. This paper seeks to explain the cross-sectional variation in discount volatility and thereby draw conclusions as to why discounts are so volatile. The analysis suggests that the main drivers of discount volatility are new information hitting the market for trust shares and volatility of NAV returns. Arbitrageurs try to take advantage of discount anomalies but their activities are restricted, particularly for unmarketable trusts or those for which a significant proportion of the underlying assets are unquoted. There is no evidence that either individual investor sentiment or UK specific sentiment has any impact on discount volatility.