Two birds, one stone: Joint timing of returns and capital gains taxes

Yaoting Lei, Ya Li, Jing Xu

Research output: Contribution to journalArticlepeer-review

3 Citations (Scopus)

Abstract

In asset return predictability, realized returns and future expected returns tend to move in opposite directions. This generates a tension between tax- and market-timing incentives. In this study, a portfolio choice problem in the presence of both return predictability and capital gains tax is examined. We characterize various features of the optimal trading strategy, and demonstrate that the optimal strategy helps mitigate the tension between market- and tax-timing. The calibrated model suggests that return predictability can significantly increase both the utility loss due to capital gains tax and the value of deferring capital gains realization.Overall, our results suggest that the nature of the asset return process can have important implications for the welfare effects of capital gains tax.

Original languageEnglish
Pages (from-to)823-843
Number of pages21
JournalManagement Science
Volume66
Issue number2
DOIs
Publication statusPublished - 2020

Keywords

  • Capital gains tax
  • Portfolio choice
  • Return predictability

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