Download - Dividend yield, does it matter?
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Dividend yield, does it matter?
Based on Fast Forward case.
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What is risk premia?
• P(t)=Div(t+1)/(r-g)=Div(t) (1+g)/(r-g)
• P(t+1)=Div(t+2)/(r-g)=P(t)*(1+g)
• Thus, Exp. Returns = DivY *(1+g) +g
• Risk premia = DivY *(1+g) +g –Rf
• But g Rf => Risk premia DivY *(1+ Rf)
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Another argument: valuation ratios shold be within some bound
• Conventional efficient market theory: prices are random walk.– Thus, neither D/P nor P/E ratios should not
have any forecasting power.
• But if we will accept that for whatever reason DivY should be within some bound, then either numerator or denominator should move in a way that makes market variables forecastable. Then what moves?
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Dividend Yield
0
0.02
0.04
0.06
0.08
0.1
0.12
1870 1890 1910 1930 1950 1970 1990 2010
Long-termMean DivY=4.65%
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Till next mean crossing...
(a bit of cheating...)
• Poor job for Div growth forecasting, R2=0.25%
• Good job for price growth forecasting R2>30%
• Thus, it is DENOMINATOR that brings back DivY within ”decent” range
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One year horizon• Div growth is fairly
predictable, R2=13%
• Price changes are almost not predictable, R2 is about 1%
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Ten years Horizon
• R2=1% for DivG and 16% for PriceG.
• Note that DivG results are not really explainable within eff. Mkt theory at all.
• Based on that, within next 10 yrs we should expect 55% drop in S&P
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P/MA10(E)
0
5
10
15
20
25
30
35
40
45
50
1880 1900 1920 1940 1960 1980 2000
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Forecasting from P/smoothed E
ratio
• R2 for price growth regression is high (40%)
• Superior to DivY• Forecast is really
bad..
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• We cannot forecast productivity growth....
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Anything new happened within the last 30 years? Share buybacks
• Share repurchases have tax advantages w.r.t. paying simple dividends.
• Part of earnings that can be used for dividend payout is now smaller and DivY is underestimated w.r.t. similar number 50 years ago
• What difference does it make?
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Cole, Helwege & Laster,FAJ 96
Assuming both buybacks and new issues are done at market prices, significant adjustment for DivY is necessary
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Cole, Helwege & Laster,
FAJ 96 (2)• Adjustment of 0.8% in
96.• Problem: most of
options are issued at below mkt price. Liang and Sharpe: for 144 S&P500 firms in 97 adjustment is 1.39%, in 98 0.75%
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Hard assets and financial claims diverge
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Intangible investmenst (1)
• ”New economy” involves substantial investments in intangibles.
• Accounting procedures do count activity to promote web site as expenses but ”...they are really investments”. Hall (2000) called it e-capital.
• McGrattan &Prescott : understatement in earnings are about 26%
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Intangible investmenst
• McGrattan &Prescott : – understatement in earnings are about 26%– Fits only last couple of years
• Bond & Cummins: if intangibles are counted as R&D and marketing, then for 459 industrial firms 82-98 still there is no explanation of overvaluation.
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Demographic changes
• Affluent society is formed
• Baby boomers are educated, have money to invest and need to save for retirement (uncertainties related to Social Securities, etc. )
• Thus, one-time shift in risk premium.
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Inflation
• Responce to inflation is not always rational. Modigliani & Cohn 79: People discount dividends not at real, but at nominal rate. Thus, when inflation is high, stock market is undervalued, and when it is low, stock mkt is overvalued.
• Now CPI is low...
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International Evidence: Mixed
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What else Dividends can tell us?
• Let us consider 2 variables: Prices and dividends.• Gordon/Shapiro says, that • P(t)=E(k D(t+k) *(1+r)-k)P*(t)• P*(t)=P(t)+(t), assume E((t)| P(t))=0• =>cov(P,P*)=cov(P,P)+cov(P, )=var(P)• -1<Cov(P,P*)/(StdPStdP*)<1• => Std(P)/Std(P*)<1=> std(P)<Std(P*)• Volatility of forecast (prices) should be smaller than
volatility of payouts (dividends). But the relationship is exactly opposite!!!!