Dividend Smoothing and Predictability
Long Chen, Zhi Da, Richard Priestley
Management Science · 2012 · Volume 58 · Issue 10
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.
Keywords
dividend-price ratio, earning-price ratio, dividend growth, earnings growth, return, predictability, dividend smoothing
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