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Capital gains taxation has important implications for investors’ portfolio choice decisions. To explore these implications, we develop a continuous time investment and consumption model with capital gains tax, Epstein–Zin recursive utility, and regime switching. We find that various factors, such as tax rate, risk aversion, interest rate, stock return, and volatility, jointly affect optimal portfolio allocation, whereas intertemporal substitution does not. In a regime switching market, investors may trade or stop trading purely because of a change in regime, and there is a distinct cross-regime effect on optimal portfolio allocation. In particular, investors tend to raise stock investment in a bear regime so as to reduce potential tax payments upon regime switching. Given reasonable parameter values, regime switching has a greater impact on optimal portfolio allocation in a bear regime than in a bull regime. This paper was accepted by Neng Wang, finance.

Many individual investors, mutual funds, and institutions trade as if dividends and capital gains are disconnected attributes, not fully appreciating that dividends result in price decreases. Behavioral trading patterns (e.g., the disposition effect) are driven by price changes instead of total returns. Investors rarely reinvest dividends, and trade as if dividends are a separate, stable income stream. Analysts fail to account for the effect of dividends on price, leading to optimistic price forecasts for dividend-paying stocks. Demand for dividends is systematically higher in periods of low interest rates and poor market performance, leading to lower returns for dividendpaying stocks.

We study portfolio choice with multiple stocks and capital gains taxation, assuming that capital losses can only offset current or future realized capital gains. We show, through backtesting using empirical distributions, that optimal equity holdings over an extended period are significantly lower on average than benchmark holdings suggested in the literature. Using value and growth or small and large portfolios, the backtests show that allocations remain persistently underdiversified. Carryover losses have large economic significance since they can dramatically shrink the no-trade region. Finally, the backtested economic cost of incorrectly modeling capital losses is at least 8% of lifetime wealth. The Internet appendix is available at https://doi.org/10.1287/mnsc.2017.2733 . This paper was accepted by Neng Wang, finance.

We use data from the Panel Study of Income Dynamics to investigate how households' portfolio allocations change in response to wealth fluctuations. Persistent habits, consumption commitments, and subsistence levels can generate time-varying risk aversion with the consequence that when the level of liquid wealth changes, the proportion a household invests in risky assets should also change in the same direction. In contrast, our analysis shows that the share of liquid assets that households invest in risky assets is not affected by wealth changes. Instead, one of the major drivers of household portfolio allocation seems to be inertia: households rebalance only very slowly following inflows and outflows or capital gains and losses.

Financial models incorporating a reference point, such as the Capital Gains Overhang (CGO) model, typically assume it is fixed at the purchase price. Combining experimental and market data, this paper examines whether such models can be improved by incorporating reference-point adjustment. Using real stock prices over horizons from 6 months to 5 years, experimental evidence demonstrates that a number of salient points in the prior share price path are key determinants of the reference point, in addition to the purchase price. Market data testing is then undertaken by using the CGO model. We show that composite CGO variables, created by using a mix of salient points with weights determined in the experiment, have greater predictive power than the traditional CGO variable in both cross-sectional U.S. equity-return analysis and when analyzing the performance of double-sorted portfolios. In addition, future trading volume is more sensitive to changes in the composite CGO variables than to the traditional CGO, further emphasizing the importance of adjusting reference points. This paper was accepted by Tyler Shumway, Finance .

We study how the market for innovation affects enforcement of patent rights. We show that patent transactions arising from comparative advantages in commercialization increase litigation, but trades driven by advantages in patent enforcement reduce it. Using data on trade and litigation of individually owned patents in the United States, we exploit variation in capital gains tax rates across states as an instrument to identify the causal effect of trade on litigation. We find that taxes strongly affect patent transactions, and that trade reduces litigation on average, but the impact is heterogeneous. Patents with larger potential gains from trade are more likely to change ownership, and the impact depends critically on transaction characteristics.

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. This paper was accepted by Karl Diether, finance.

We analyze stock trades made by individuals holding stock in both taxable and tax-deferred accounts. By comparing trades across these two types of accounts, we uncover a capital gains lock-in effect in taxable accounts. The lock-in effect is more pronounced for large stock transactions and for stocks held for at least 12 months. Over shorter horizons, the disposition effect outweighs the lock-in effect. Comparison of loss realizations in taxable and tax-deferred accounts yields evidence of tax-loss selling throughout the year. Effective accrual tax rates for stocks that experience substantial appreciation are substantially below the statutory tax rate on long-term gains.

I study the effects of CEOs' unrealized capital gains tax liabilities (tax burdens) on corporate risk-taking. Recent work suggests that high tax burdens discourage CEOs from selling stock. I hypothesize that this causes the executives to become overexposed to firm-specific risk, thereby reducing their willingness to make risky corporate decisions. In a series of tests, I find that corporate risk-taking decreases as CEOs' personal tax burdens increase. Further, firms with CEOs who are more locked-in to their stock positions (i.e., CEOs with higher tax burdens) experience larger increases in risk-taking following federal and state tax cuts. When I investigate the mechanism behind this relation, I find that tax cuts trigger stock sales by the locked-in executives, allowing for improved diversification. Overall, my findings indicate that the personal tax burdens of CEOs affect the firm by reducing executives' preferences for risk at the corporate level.

This study aims to examine the emerging Environmental Phillips-Curve (EPC) hypothesis across G7 nations from 1990 to 2022, employing the cross-sectionally augmented autoregressive distributed lags (CS-ARDL), wavelet coherence, and wavelet causality techniques. CS-ARDL analysis reveals negative impacts of the unemployment rate on CO2e, with economic growth exerting positive effects on CO2e over short- and long-term periods. Additionally, renewable energy and technological innovations demonstrate mitigating effects on CO2e, while population is identified as a contributor to CO2e in the long-term. Concurrently, economic policy uncertainty emerges as a significant driver of heightened CO2e over the short- and long-term. The inverse relationship between CO2e and unemployment rate corroborates the validity of the EPC hypothesis within G7 nations. Furthermore, country-specific wavelet coherence and causality analyses unveil varying degrees of co-movement and causal links among variables across diverse frequencies and time intervals. Key findings indicate an out-of-phase nexus between the unemployment rate and CO2e, thus cross-validating the EPC hypothesis. These results underscore the necessity for creative solutions to address the trade-off between CO2e reduction and potential employment impacts. Policymakers must promote green-tech adoption and sustainable practices to mitigate environmental harm while fostering green employment growth. Addressing economic policy uncertainty is imperative to ensure environmental sustainability. G7 nations should enact policies that incentivize green investments through higher capital gains, tax-free investments, and subsidies for environmental technologies to catalyze long-term green employment and growth.