Market Responses to Dividend Increases and Changes in Payout Ratios

Abstract

folios are chosen on the basis of the effect of the dividend increases on the divi? dend payout ratio (dividends/earnings). We use the dividend payout ratio as a reflection of the dividend strategy of a firm. An increase in the dividend payout ratio would then imply a higher dividend payout strategy and should be accompanied by a decrease in price if taxes on dividends are greater than taxes on capital gains. By partitioning our sample on the basis of changes in payout ratios, we attempt to decompose the abnormal returns on dividend change announcement days into an information effect and a tax effect. The results in this paper are limited to dividend increase announcements over a short time period, but are consistent with the existence of both an informa? tion effect and a tax effect. Firms that announced an increase in dividends generally had positive abnormal returns, but firms with a positive dividend change and a decrease in the payout ratio tended to have higher abnormal returns than did firms with a positive dividend change and an increase in the payout ratio. The