Document Type

Working Paper

Publication Date



As financial engineering becomes more sophisticated, taxing income from capital becomes increasingly difficult. We offer the first empirical study of a high profile strategy known as "tax-free hedging," which offers economic benefits of a sale without triggering tax. We explore nontax costs that taxpayers face when hedging by issuing so-called "DECS," "PHONES," and other publicly-traded exchangeable securities. Focusing on 61 transactions between 1993 and 2001, we shed light on why taxpayers might prefer to hedge through private "over-the-counter" transactions: An offering of exchangeable securities is announced in advance and implemented all at once, triggering an almost 5 percent decline in the underlying stock price before the hedge is implemented.


Banking and Finance Law | Law | Law and Economics | Securities Law | Tax Law