Liquidity and Dividend Policy

Igan, Deniz and de Paula, Aureo and Pinheiro, Marcelo (2006): Liquidity and Dividend Policy.

Abstract

We document the association between a firm's payout policy and its stock's liquidity. In particular, we show that dividend-paying firms have a more liquid market for their stock and measures of a stock's liquidity is positively linked to its probability of being a dividend payer. Furthermore, this link between dividends and liquidity is stronger when shareholders are more powerful. This is consistent with a mechanism in which payout decisions act as a commitment not to invest: by distributing cash, the firm reduces its potential for internal equity financing, raising its cost of capital and leading to less investment. Such a mechanism may lead to less volatile stock prices and potentially to a decrease in the adverse selection costs faced by liquidity-constrained shareholders, increasing stock price liquidity. When shareholders have more power, liquidity would be more strongly linked with dividends as managers would be more likely to pay dividends to meet shareholders�preference for liquidity.

• Item Type: MPRA Paper
• Language: English
• Keywords: Liquidity; Dividend Payers; Adverse Selection Costs; Corporate Governance; Shareholder Power; Informed Trading
• Subjects: G - Financial Economics > G1 - General Financial Markets > G14 - Information and Market Efficiency ; Event Studies ; Insider Trading; G - Financial Economics > G3 - Corporate Finance and Governance > G31 - Capital Budgeting ; Fixed Investment and Inventory Studies ; Capacity; G - Financial Economics > G3 - Corporate Finance and Governance > G34 - Mergers ; Acquisitions ; Restructuring ; Corporate Governance

References

Allen, Franklin, Antonio E. Bernardo, and Ivo Welch, 2000, A Theory of Dividends Based on Tax Clienteles, Journal of Finance 55, 2499-2536.

Allen, Franklin and RoniMichaely, 2002, Payout Policy,Wharton Financial Institutions Center Working Paper 01-21-B, forthcoming in North-Holland Handbook of Economics edited by George Constantinides, Milton Harris, and Rene Stulz.

Amihud, Yakov, 2002, Illiquidity and Stock Returns: Cross-Section and Time-Series Effects, Journal of Financial Markets 5, 31-56.