Adverse selection and bid–ask spreads: Evidence from closed-end funds

Abstract

This paper uses closed-end funds to analyze two commonly used empirical models for estimating the adverse selection component of a firm's bid–ask spread. In contrast to stocks, closed-end funds report their net asset values weekly, all but eliminating uncertainty about their current liquidation values. Estimates of the adverse selection component, however, are large and significant for both the funds and a matched sample of common stocks. This suggests that either adverse selection arises primarily from factors other than current liquidation value or the empirical models are misspecified.