Earnings Yield, Smoothing Adjustment, and Dividend Dynamics
51 Pages Posted: 16 Feb 2021 Last revised: 7 Apr 2021
Date Written: February 10, 2021
We decompose earnings yield into a smoothing component and a stationary residual component to isolate the fluctuations due to variation in expected returns from those due to the change in the forecast of dividend dynamics. The residual component forms a powerful predictor of dividend growth motivated by linking the dividend partial adjustment model to the present-value framework. Empirically, the proposed predictor displays statistically significant in-sample and out-of-sample predictive power for aggregate dividend growth at monthly and annual frequencies, robust in dividend reinvestment strategies, in pre- and post-war data, in good and bad times, and at short and long horizons.
Keywords: Cash flow, dividend smoothing, present-value model, out-of-sample forecasting
JEL Classification: G12, G17, C32, C53
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