A Robust Estimation of the Relation between Stock Returns, Size, Dividend Yield and Payout Ratio

24 Pages Posted: 20 Jun 2002  

Ian D. McManus

University of Southampton - School of Management

Owain Ap Gwilym

Bangor Business School

Stephen Thomas

University of Southampton - School of Management

Date Written: May 30, 2002

Abstract

We examine the relationship between Returns and Dividends in the context of the UK Stock Market, using data from the LBS London Share Price Database (LSPD) and using robust estimation (GMM). We also introduce earnings-related data into our analysis, using Payout Ratio as a carrier of this additional information. We find that the introduction of the additional variable has a considerable effect upon the inferences which would otherwise have been drawn from a study of Dividend Yield in the absence of such earnings information.

Our methodology allows for the establishment of a distinct category for Zero-Dividend stocks (as distinct from those stocks which are merely low-yielding). This allows us to examine in more detail the particular returns characteristics of this class of stocks, which has more in common (in terms of Returns performance) with the high-yielding, rather than the low-yielding subdivision of dividend-paying stocks.

Because of the implicit relationship (in terms of a joint distribution) between the dividend payment characteristics of firms and their size, we use an improved measure of Market Capitalisation (relative to that posted explicitly in the LSPD) in order to convey size information into our regressions. This allows for improved resolution, both in terms of the magnitude of the firm size variable, and also of its sampling frequency. Our analysis also accounts for the more complex seasonal behaviour apparent in UK returns characteristics.

Our study proceeds from an initial survey of 'raw' (non risk-adjusted) returns for our system of 30 portfolios (6 Dividend Yield subdivisions x 5 Size subdivisions), followed by the introduction of risk adjustment on both an individual (portfolio) and category (Dividend Yields; Market Capitalisations) basis. This leads to a more complete model specification which allows for both categorical and interaction variables in order to separate and identify the various influences at play in determining returns behaviour.

We conclude that the inclusion of Payout Ratio is an important adjunct to Dividend Yield in explaining Returns; indeed, our subperiod analysis revealed that, in many instances, the former seems to dominate the latter. Because of this, we deduce that Payout Ratio may convey additional signalling information, over and above that of Dividend Yield alone, for investors.

Suggested Citation

McManus, Ian D. and Ap Gwilym, Owain and Thomas, Stephen, A Robust Estimation of the Relation between Stock Returns, Size, Dividend Yield and Payout Ratio (May 30, 2002). EFMA 2002 London Meetings. Available at SSRN: https://ssrn.com/abstract=314781 or http://dx.doi.org/10.2139/ssrn.314781

Ian D. McManus (Contact Author)

University of Southampton - School of Management ( email )

Highfield
Southampton S017 1BJ, Hampshire SO17 1BJ
United Kingdom

Owain Ap Gwilym

Bangor Business School ( email )

Bangor Business School
College Road
Gwynedd LL57 2DG, Wales LL57 2DG
United Kingdom

HOME PAGE: http://www.bangor.ac.uk/business/staff/owain_ap_gwilym.php.en

Stephen Thomas

University of Southampton - School of Management ( email )

Highfield
Southampton S017 1BJ, Hampshire SO17 1BJ
United Kingdom
+44 23 8059-3068 (Phone)
+44 23 8059-3844 (Fax)

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