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Dividend Smoothing and Predictability

Author

Listed:
  • Long Chen

    (Cheung Kong Graduate School of Business, 100738 Beijing, China; and Olin School of Business, Washington University in St. Louis, St. Louis, Missouri 63130)

  • Zhi Da

    (Mendoza College of Business, University of Notre Dame, Notre Dame, Indiana 46556)

  • Richard Priestley

    (Department of Financial Economics, BI Norwegian Business School, Nydalsveien 37, 0484 Oslo, Norway)

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.

Suggested Citation

  • Long Chen & Zhi Da & Richard Priestley, 2012. "Dividend Smoothing and Predictability," Management Science, INFORMS, vol. 58(10), pages 1834-1853, October.
    • Handle: RePEc:inm:ormnsc:v:58:y:2012:i:10:p:1834-1853
    DOI: 10.1287/mnsc.1120.1528
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