Research On The Closed-End Fund Discounts And The Noise Trader Risk In China's Stock Market

Behavior Finance broke the analytical framework of traditional finance theory under the rational trader hypothesis by bringing in another type of investor in the market: the noise traders (NTR). It not only answered the closed-end fund puzzle, but also established the investor sentiment as one of the many factors that have an influence on the return of securities.This paper proved the existence of NTR and the appropriateness of using closed-end fund discounts as a measurement for this risk through empirical test, then calculated this risk in China's stock market by using closed-end fund discount as a measurement. It also estimated the effect of NTR on the returns of different portfolios grouped by the market capitalization of free-float stock.The conclusion: the NTR in China's stock market is significantly correlated with the scale of free-float capitalization of each stock. Generally, small and middle cap stocks are prone to the impact of the trading activity of noise traders. But we found different results in large cap stocks. The relationship between the return of large cap stocks and the NTR is obviously in contract with that found in the western world. The risk return of NTR for large cap stock is negative in China. Moreover, the scale and volatility of closed-end fund discount are bigger than those in the foreign market, implying that the noise traders in China are more speculative in their trading activity.