Do Dividends Matter More in Declining Markets?

1. Do Dividends Matter More in Declining Markets? Kathleen Fuller & Michael Goldstein University of Georgia Babson College Burridge Center Investment Conference

2. Dividends:Who cares? • Academic research indicates investors’ preferences for dividends vary across shareholder types. • Tax clienteles • Anecdotal evidence suggests investors’ preferences vary over time • Fidelity ad • S&P 500 prediction • Investors’ preferences for dividend-paying stocks vary over time conditional on the state of the market Burridge Center Investment Conference

3. Why do investors care? • Prospect theory: • Markowitz (1959), Kahneman & Tversky (1979), Gaul (1991), Connolly, Stivers & Sun (2004) • Signaling • future value or reduce agency costs. • Bhattacharya (1979), Easterbrook (1984), John & Williams (1985), Miller & Rock (1985) , Jensen (1986), Lang & Litzenberger (1989) • KEY QUESTION: Does the market value dividends more in declining markets? Burridge Center Investment Conference

4. Why concentrate on dividends? • Dividends vs. Repurchases • Dividend payments benefit all shareholders equally. • Repurchases not generally regularly-scheduled • Like three midterms instead of just a final • Repurchases not generally long term commitment to signal in the future. • Repurchases not as good/regular a signal, so won’t affect our results. • If non-dividend paying firms repurchase shares instead of paying dividends, we bias against finding our results. • Overall, not saying dividends are the only way to signal. • Just that if dividends are regularly-scheduled signals, they should be valued somehow. Burridge Center Investment Conference

5. Empirical Predictions • Dividends matter more in declining markets: • Dividend-paying stocks outperform non-dividend-paying stocks more in declining markets than in rising markets. • Maintaining a dividend payment should garner a favorable response during declining markets but not during advancing markets • Dividend increase should matter more in declining markets than advancing markets • Dividend-paying stocks should outperform non-dividend-paying stocks even in months with no dividend payment. Burridge Center Investment Conference

6. Empirical Predictions (cont.) • Signaling theory vs. Prospect theory • Dividend Yield: • Prospect theory: • the larger the dividend yield, the greater the value according to prospect theory • signaling theory • no difference • Firm Size: • Prospect theory: • does not differentiate • Signaling theory: • greater for small stocks • Liquidity: • Prospect theory: • no predictions • signaling theory: • greater investor dispersion in more liquid stocks • greatest differences between dividend-paying and non-dividend-paying stocks in down markets. Burridge Center Investment Conference

7. Sample • 20,315 NYSE, Amex and NASDAQ listed firms from January 1, 1970 to December 31, 2000. • Firms classified as dividend-paying or non-dividend paying firms based on regular quarterly dividend payments • S&P 500 index returns for 31-year period. • Advancing ≡ S&P500 return is positive; Declining ≡ S&P500 return is negative • 1,272,371 monthly observations for non-dividend-paying firms and 751,856 monthly observations for dividend-paying firms Burridge Center Investment Conference

8. Overall Results • Dividend paying stocks outperform non-dividend paying stocks by more in down markets than in up markets • Robust to: • Risk: CAPM, Fama-French, Fama-MacBeth • Truncation, NYSE/NASDAQ, Volume, Bull/Bear, Implicit Volatility • Maintaining dividends in down markets: sig. positive return • Increasing dividend in down market yields sig. higher return than increasing in up market • Results still hold in non-dividend paying months • Dividend-paying stocks outperform non-dividend-paying stocks in declining markets. Burridge Center Investment Conference

9. Prospect vs. Signaling Results • Dividend yield does not matter • All that matters is the payment of the dividend, not how much • Size matters • Small dividend-paying stocks outperform small non-dividend-paying stocks in down markets more than large dividend-paying stocks outperform large non-dividend-paying stocks in down markets. • Volume matters • Liquid, high volume stocks have the highest differences between dividend-paying and non-dividend-paying stocks in down markets. • Collectively, results are more supportive of a signaling theory explanation than a prospect theory one. Burridge Center Investment Conference

10. Table 1Sample Statistics Burridge Center Investment Conference

11. Table 2Average Return for both Up and Down Markets a Significance was only tested using parametric tests for the Differences of Differences. * indicates t-test is significant at the 5% level ** indicates t-test is significant at the 1% level w indicates the Wilcoxon sign-rank test is significant at the 1% level k indicates the Kruskal-Wallis test is significant at the 1% level Burridge Center Investment Conference

12. Table 3CAPM Risk-Adjusted Abnormal Returns Burridge Center Investment Conference

13. Table 4Excess Returns for 16 Portfolios Formed on Size and BE/ME Burridge Center Investment Conference

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16. Table 5Fama-French Adjusted Returns Burridge Center Investment Conference

17. Table 6Fama-MacBeth Returns Burridge Center Investment Conference

18. Table 7Cumulative Abnormal Returns for Dividend Changes in Up and Down Markets Burridge Center Investment Conference

19. Table 8Average Return for Up and Down Marketsfor Dividend-Paying Stocks during Months with No Dividend Payments Burridge Center Investment Conference

20. Table 9Fama-French Risk Adjusted Returns Removing Smallest (and Largest) Firms Burridge Center Investment Conference

21. Table 10Returns for both Bull and Bear Markets Burridge Center Investment Conference

22. Table 11Fama-French Risk Adjusted Returns Controlling for Volatility Burridge Center Investment Conference

23. Table 12Fama-French Risk Adjusted Returns Controlling for NYSE and NASDAQ Burridge Center Investment Conference

24. Table 13Fama-French Risk Adjusted Returns by Dividend Yield Burridge Center Investment Conference

25. Table 14Fama-French Risk Adjusted Returns by Size Burridge Center Investment Conference

26. Table 15Fama-French Risk Adjusted Returns by Volume Burridge Center Investment Conference

27. Conclusion • Results indicate that dividend paying firms outperform non-dividend paying firms more after controlling for risk. • CAPM, Fama-French, Fama-MacBeth • Robust to volume, volatility, exchange, etc. • Maintaining a dividend results in a sig. positive return in down market while increasing a dividend results in sig. more positive return in down market than up market. • Dividend-paying stocks outperform non-dividend-paying stocks even during non-dividend paying months. • Results are not a function of dividend yield, but are a function of size and volume. • Consistent with a signaling theory explanation. • Dividends are valued more by investors in declining markets because they signal information when most needed. Burridge Center Investment Conference