The Information Content of Dividends: Safer Profits, Not Higher Profits

75 Pages Posted: 18 Jan 2018

See all articles by Roni Michaely

Roni Michaely

The University of Hong Kong; ECGI

Stefano Rossi

Bocconi University; Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI)

Michael Weber

University of Chicago - Finance; National Bureau of Economic Research (NBER)

Multiple version iconThere are 5 versions of this paper

Date Written: November 28, 2017

Abstract

Contrary to the central prediction of signaling models, changes in profits do not empirically follow changes in dividends. We show both theoretically and empirically that dividends signal safer, rather than higher, future profits. Using the Campbell (1991) decomposition, we are able to estimate expected cash flows from data on stock returns. Consistent with our model’s predictions, cash-flow volatility changes in the opposite direction from that of dividend changes and larger changes in volatility come with larger announcement returns. We find similar results for share repurchases. Crucially, the data supports the prediction - unique to our model - that the cost of the signal is foregone investment opportunities. We conclude that payout policy conveys information about future cash flow volatility. Our methodology can be applied more generally to overcoming empirical problems in testing theories of corporate financing.

Keywords: dividends, payout policy, cash flow volatility, signaling model

JEL Classification: G350

Suggested Citation

Michaely, Roni and Rossi, Stefano and Weber, Michael, The Information Content of Dividends: Safer Profits, Not Higher Profits (November 28, 2017). CESifo Working Paper Series No. 6751, Available at SSRN: https://ssrn.com/abstract=3103693 or http://dx.doi.org/10.2139/ssrn.3103693

Roni Michaely

The University of Hong Kong ( email )

Pokfulam Road
Hong Kong, Pokfulam HK
China

ECGI ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Stefano Rossi

Bocconi University ( email )

Via Roentgen 1
Milano, MI 20136
Italy

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Michael Weber (Contact Author)

University of Chicago - Finance ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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