Study On The Discount Of China Closed-End Funds And The Application Of Arbitrage

The closed-end fund discount is one of the financial puzzles. For decades, experts had tried to explain the puzzle from different aspects, but till now there is no explanation being accepted universally. Since the first closed-end funds being listed in1998, the puzzle of closed-end funds discount also appeared in China, and its amplitude and fluctuation even over the foreign average level. Domestic scholars try to give interpretations from China's special economic condition, but they also can't explain the puzzle well.In this paper, we try to using the noise trading theory to explain the puzzle of discount of closed-end fund. Firstly, in our theoretical model, the investors are divided into two groups, the rational ones and the noise ones. The rational group requires more rewards from their portfolio because the noise ones bring additional risks to them through their reasonless investment. Using weekly amplitude as the noise trading substitution indexes, we examine if the noise trading relations with the discount of closed-end funds. The results hold out that they have a minus relationship. Secondly, we assumed that the investors can make an arbitrage with stock index futures and the closed-end fund if the closed-end fund has a big discount. With the stock-index futures coming into market, the investors have a good tool to hedging the risk. The hedging can change the exchange ways of funds, in which the funds must be bought first and then be sold. And it would lead the discount to the normal level. Based on the portfolio theory, the paper adopts the static and dynamic hedging model respectively to find an optimal hedging ratio. And then we compare the rewards from the arbitrage group and not-arbitrage group through a simulation model designed by the author .We find that the arbitrage group gets a higher reward.At last, we give some possible reasons for the discount of closed-end fund. On this basis, we try to structure an early warning mechanism for funds market in China. At the same time, we also give some suggestions to improve stock-index futures market in order to balance the closed-end funds market.