Abstract
With special institutional characteristics and regulatory requirements, what factors can motivate UK closed-end funds to engage in open-market repurchases? Investigating repurchase transactions on financial-year basis, I find that funds repurchase shares to reduce discounts and to increase the net asset value per share, as directors claim, but not to increase fund liquidity. I also find that funds repurchase shares to increase leverage ratios. Unlike conventional firms, neither distributing excess cash nor substituting dividend payouts promote fund repurchases. Fund size has a negative effect on repurchase decision.
Highlights
There is substantial literature on conventional firms’ repurchase activities, while studies on closed-end fund repurchases are rare
The insignificant coefficients of the cash, cash flow and payout ratios in the four models imply that, compelled by the special regulations and minimum dividend policy, closed-end funds domiciled in the UK repurchase shares neither to distribute excess capital nor as a substitute for dividend payouts. These findings confirm the corresponding hypotheses but differ from the findings in the existing literature relating to conventional firms, such as those by Jensen (1986), Stephens and Weisbach (1998), Jolls (1998), Dittmar (2000) and Fenn and Liang (2001)
A 1% decrease in the leverage ratio at the end of the prior financial year would increase the repurchase percentage by 0.059% and the repurchase probability by 0.007%
Summary
There is substantial literature on conventional firms’ repurchase activities (see Barth & Kasznik 1999; Bartov 1991; Brav et al 2005; Grullon & Michaely 2004; Jagannathan & Stephens 2003; Kahle 2002; Lie 2005; Netter & Mitchell 1989; Nohel & Tarhan 1998; Padgett & Wang 2007; Rau & Vermaelen 2002), while studies on closed-end fund repurchases are rare. Closed-end funds normally trade at discounts of the underlying net asset value (NAV) Because of their unique characteristics, funds’ repurchases are expected to be motivated by different objectives than those of conventional firms. It is argued that repurchases may increase the liquidity of the fund and increase the share price (see Akhigbe, Kim & Madura 2007; Pontiff 1995; Porter, Roenfeldt & Sicherman 1999) According to these theories, reducing the discount, increasing the NAV per share and raising liquidity are all predicted to motivate closed-end funds’ repurchase activities. These objectives are frequently expressed by fund directors in their annual reports prior to requesting authorisation for a repurchase programme from the annual general meeting of shareholders (see AIC 2010). The closed-end fund launches the repurchase programme: Observations Proportion (%)
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