Posted on 26th Dec 2024 01:25:12 AM Banking, Finance
Background
When managers think about dividend policy they should take into account a number of insights from academic research on dividend. A number of theories from academic research on dividends are available.
There are three major theories that attempt to explain investors demand for dividends. The first one is that high dividends are considered as current income of the shareholders. They may sell a portion of their shares each year to get current income. But they would incur transactions costs and possibly also capital gain taxes. Shareholders prefer dividends to retained earnings. Dividends are also less risky and hence more valuable to investors than retained earnings. The second theory of dividend asserts that investors only care about total returns rather than receiving them in the form of dividends or in the price appreciation of a particular share. This irrelevant proposition of dividends is based on the argument that dividend policy is merely a financing decision. At this end, the only important determinant of a company’s value is its future earnings power. Therefore, it is largely a matter of indifference to investors whether companies choose to pay low dividends and finance themselves with retained earnings or pay high dividends and retrieve the capital with new stock or debt. The third one implies that investors care about how their total returns are divided between dividends and market price appreciation primarily because of the tax involvement. To the extent dividends are taxed at higher rates than capital gains, investors will prefer a lower payout policy. Empirical studies of announcements of dividend changes confirm, without exception, that the market responds positively to dividend increases and negatively to dividend cuts. There are also studies showing that companies announcing dividend cuts outperform the market significantly in the year following the dividend cut. None of the existing studies provides a conclusive answer to the issue viz., whether companies choosing to pay out higher proportions of their earnings as dividends end up producing higher total returns for their shareholders.
The size of the market negative response to a stock-offering announcement is likely to depend on the extent of the information asymmetry between management and investors. If investors know a great deal about a company and its operations, then the announcement will have been anticipated and there will be relatively little pressure on the stock price. The most important financial impact is the signaling effect of dividends arising from information asymmetries between management and outside investors. When in a mechanism one group of participants enjoy better or more timely information than other groups then information asymmetry occurs. And an action taken by the more informed group that provides credible information to the less informed is called signal. Typically, the source of the information asymmetry is the superior knowledge that managers have about the firm’s prospects, while the investors in the firms comprise the uninformed group (Copeland and Weston, 2005).
The rest of the paper is designed as follows: Section 2 highlights the purpose and research questions of this study; section 3 states some theoretical review; section 4 states the overview of Dhaka Stock Exchange (DSE); section 5 highlights previous studies and suggested models; section 6 furnishes research methodology highlighting model specification, data collection and analytical tools; section 7 explains empirical results; limitations and conclusive remarks with expected policy implications are furnished in section 8 and 9 respectively.
Purpose and Research Questions
Purpose
The prime purpose of this study is to study determinants of market share price and to examine their functional relationships with the market price of common stocks trades in Dhaka Stock Exchange (henceforth DSE), an emerging capital market of Bangladesh. To conduct this study following research questions are formulated.
Research Questions
Theoretical Review
So many scholars conducted study on dividend policy, information contents of dividend, information asymmetry and their impact on market price of common stock.
Information Contents of Dividends
It is presumed that dividend declaration contains information about the future of the organization. In his study Watts, R. (Watts, 1973) tested the hypothesis information content of dividends´´ which states that dividends convey information about future earnings – information that enables market participants to predict future earnings more accurately. Specifically, the objective of his study is to test the hypothesis that knowledge of current and past dividends enables a better prediction of future earnings that is possible with current and past earnings alone. For his study he calculated monthly closing price of 310 firms for June 1945 to June 1968 that are available on the tapes constructed by the Center for Research in Security Prices (CRSP) at the University of Chicago. In his study the effect of the information on future earnings is modified by both the rate at which he adjusted actual dividends to desired dividends and the firms target dividends payout rates. The main conclusion of his study is that, in general, the information content of dividends can only be trivial.
Empirical question of the study of Joy, O. M. et. al. (Joy et al., 1977) was to reexamine the adjustment of stock prices to announcements of presumed unanticipated changes in earnings. His study presents evidence that, over the period studied, the information contained in quarterly earnings was not fully impounded into stock prices at the time of announcement. In their study, the sample size was 96 firms listed on NYSE and they took weekly closing price, monthly price and dividend data for the period of 1963-1968. He concluded that price adjustments to the information concerning security valuations that are contained in unexpected ``highly favorable´´ quarterly earnings reports are gradual, rather than instantaneous.
Empirical question of the study of Aharony, J. et. al (Aharony and Swary, 1980) was whether dividend information content is useful to capital market participants. The main purpose of his study was to ascertain whether quarterly dividend changes provide information beyond that already provided by quarterly earnings numbers. In their study they took sample of 149 industrial firms listed with NYSE and they considered daily and quarterly data for the period of 1963-76. Their findings of capital market reaction to dividend announcements strongly support the information content of the dividend hypothesis, namely that changes in quarterly cash dividends do provide information about changes in management’s assessment of future prospects of the firm. Furthermore, analyzing only the cases where dividends and earnings are announced at different points in time and obtaining similar results for either group whether earnings announcements precede or follow dividend announcements, lends support to the hypothesis that quarterly dividend announcements contain useful information beyond that already provided by quarterly earnings numbers. The results also support the semi-strong form of the efficient capital market hypothesis that on average, the stock market adjusts in an efficient manner to new dividend information. Findings about capital market reaction to the dividend announcements studied strongly support the hypothesis that changes in quarterly cash dividends provide useful information beyond that provided by corresponding quarterly earnings number. In addition, the results also support the semi-strong form of the efficient capital market hypothesis; that is, on the average, the stock market adjusts in an efficient manner to new quarterly dividend information.
In his study Penman, S. H. (Penman, 1983) compares the properties of dividend announcements and management earnings forecasts as predictors of earnings and firm value. He also studied the effects of dividend announcements on stock prices are considered. He said that his paper compares the information content of dividends with that of management earnings forecasts. In their study they took sample of 541 forecasts from COMPUSTAT ´s Merged Annual Tape and they considered annual earnings per share (EPS) for the period of 1968-73. The results of his study indicate that both the direct forecast and the dividend based forecast possess information. However, there does appear to be more information in the direct forecast than in the dividend-based forecast. He concluded that the evidence indicates that both dividend announcements and managements earnings forecasts possess information about management’s expectations. His results are representative of well-established firms only.
In his study Bamber, L. S. (Bamber, 1986) investigates the relations between the volume of securities traded and magnitude of annual earnings announcements. His results show a continuous (positive) relationship between trading volume and the magnitude of unexpected earnings. He took 1200 observations of 397 firms listed with NYSE, AMEX and OTC as sample for his study. He considered Daily data for the period from 1977 to 1979. In his study he found that both magnitude of unexpected earnings and firm size were associated with the information content of annual earnings announcements. On average, the greater the absolute value of the earnings surprise, the greater the volume of trading around the announcement date. He also said, if fewer information sources exist for certain types of firms, we would expect a relatively strong reaction to their annual earnings announcements.
Quantitative Factors
Dividend: Dividend refers to cash payment or distribution of a firm's income among its stockholders, in the form of additional fully-paid shares. After the announcement of a dividend the stock price may increase by an amount close to the dividend per share value. However, the stock price may drop on the ex-dividend date by the dividend per share amount.
Market Capital: Market capital of a company means the value of the company. It may have the causes of increasing share price to fulfill Basel II or other things.
Price/Earning (P/E) Ratio: The P/E Ratio is commonly used to assess the owners’ appraisal of share value. The higher P/E ratio is the greater investors’ confidence. If the price of the share is too much lower than the earning of the company, the stock is undervalued and it has the potential to rise in the near future and vise versa.
Earnings per Share (EPS): EPS is the amount earned on behaves of each outstanding common stock not the distributed amount to shareholders. This is perhaps the most important factor for deciding the health of any company and they influence the buying tendency in the market.
Net Income: Company's total earnings, which may have the reason of high dividend and important determinant, because expected dividend depends on it.
Return on Investment: ROI means how effectively the firm uses its capital to generate profit. Investors want to get that share of which management more efficient to earn high return on invest.
Retained Earnings: Sum of all profits earned since the firm's inception and not distributed to stockholders as dividends but are either reinvested or kept as a reserve for specific objectives.
Takeover or Merger: Company being taken-over or company taking over another is anticipated to get a stock price boost or drop in its share price.
Stock Splits: Theoretically, it should not have an impact to the stock price. But it is observed that the stock price increases after or before a stock split.
Warrants Exercise: Warrants means you have the right to buy shares from a company after the exercise date at specified price. With resulting the share price drops in the same earnings price.
Margin Loan: A loan from a broker to a client that essentially functions as a margin account. The funds may be used for any purpose, and the loan is secured with securities owned by the client.
Supply and Demand: The price is directly affected by the trend of stock market trading. When more consumers purchase a particular type of stock, its price will automatically increase and when sell that, its price will then plunge.
Inflation: Stock markets are affected by inflation. Even the perception of investors and traders on what is likely to happen with inflation will also impact to stock prices in various ways.
Interest Rates: Low interest indicates low demand for capital with driving share price down. Bull markets are usually associated with low interest rates and high Capital Gains, and bear markets with high interest rates and low Capital gains.
Exchange Rates: Exchange rates have a direct impact on the price and value of stocks in home as well as it will affect the price of stocks in abroad. Long-term movements in exchange rates are affected by fundamental market forces of supply and demand.
TABLE OF CONTENTS
Letter of transmittal
Letter of endorsement
Acknowledgement
Background
Purpose and research questions
Purpose
Research questions
Theoretical review
Information content of dividend
Quantitative factors
Information asymmetry
Signaling theory
Dividend clientele effect
Overview of dhaka stock exchange
Formation
Legal control
Major functions
Prevailing market condition
Previous studies and suggested models
Dividend hypothesis
Dividend payout and value of the firm
Dividend payout and riskiness of the firm
Determinants of market price of common stock
Research methodology
Model specification
Data collection
Analytical tools
Empirical results
Overall results
Industry-wise results
Limitations
Conclusion and expected policy implication
References
Appendix
Research, Report, Determinants, Share, Price, Movements, Bangladesh, Empirical, Study, Dividends, Retained, Earnings, Dhaka, Stock, Exchange, Hypothesis, Model, Specification, Quantitative, Factors, Margin, Loan, Supply, Demand, Inflation, Interest, Rates
Share on Facebook