Have We Learnt Nothing From Investing In Closed End Funds / ASX LICs In The Last 30 Years?

This blog post is referring to a very old study of Closed End Funds (CEFs) that I read this year. CEFs are the equivalent of what Australian investors usually refer to as LICs. The study discusses in detail the typical life cycle of CEFs. It talks about why they often swing from premium to discount, and then back to NAV in a fickle manner.

I previously linked to this study on this blog, but here it is again for those that are interested. (warning – long read!). You can come back to it later if you like.

I found it interesting that they conclude that the sometimes wild swings in discounts / premiums are largely sentiment related rather than any rational fundamental pattern. Given that this study was back in 1991 one might think that markets would gradually get a little bit more efficient in this area. From what I have observed by looking at ASX LICs very closely for a decade now, is that is not the case. Things still seem very sentiment driven and inefficient.

Let me take some interesting snippets out of this old detailed study and expand on this point. The study outlines four key stages in the typical life cycle of a CEF.

1) IPO and a premium shortly after due to listing costs deflating the NTA.

2) After four months of trading it is quite normal to see a discount of about 10%.

3) Wild fluctuations in the discount through the life of the CEF. Fluctuations in the discount appear to be mean reverting. Significant positive abnormal returns from assuming long positions on funds with large discounts.

4) When CEFs are terminated through liquidation or other events such as converting to open ended structure, mergers etc, discounts substantially narrow on announcement. A small discount remains until the event is realised.

How Is This Relevant for ASX LICs in Recent Years?

Nearly three decades later from this study I still see quite similar trends here on the ASX. Perhaps there are some minor differences, but the overall themes remain the same in my opinion. I shall elaborate a little in terms of the four stages mentioned above and tie it back to recent times on the ASX.

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