Do Stock Prices Fully Reflect Information in Dividends About Future Earnings?

Abstract

We investigate (1) whether investors' earnings expectations include dividend information that is incremental to information in earnings components and (2) whether investors correctly weight the incremental information reflected in dividends. We find that both dividends and dividend changes are related to future earnings after controlling for earnings-component information, and that the market's earnings-expectation model reflects the incremental dividend information. However, we find that stock prices act as if investors overweight the incremental information in dividends and dividend changes in forming earnings expectations. Consequently, we find predictable future stock returns related to dividends and dividend changes after controlling for the relation between future returns and earnings components.

JEL Classification: G12, G14, G35, M41