Dividend Smoothing and Predictability

Dividend Smoothing and Predictability

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Article ID: iaor20126035
Volume: 58
Issue: 10
Start Page Number: 1834
End Page Number: 1853
Publication Date: Oct 2012
Journal: Management Science
Authors: , ,
Keywords: resource smoothing, stock prices
Abstract:

The relative predictability of returns and dividends is a central issue because it forms the paradigm to interpret asset price variation. A little studied question is how dividend smoothing, as a choice of corporate policy, affects predictability. We show that even if dividends are supposed to be predictable without smoothing, dividend smoothing can bury this predictability. Because aggregate dividends are dramatically more smoothed in the postwar period than before, the lack of dividend growth predictability in the postwar period does not necessarily mean that there is no cash flow news in stock price variations; rather, a more plausible interpretation is that dividends are smoothed. Using two alternative measures that are less subject to dividend smoothing–net payout and earnings–we reach the consistent conclusion that cash flow news plays a more important role than discount rate news in price variations in the postwar period.This paper was accepted by Wei Xiong, finance.

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