Valuation of American call options on dividend-paying stocks: Empirical tests

This paper examines the pricing performance of the valuation equation for American call options on stocks with known dividends and compares it with two suggested approximation methods. The approximation obtained by substituting the stock price net of the present value of the escrowed dividends into the Black-Scholes model is shown to induce spurious correlation between prediction error and (1) the standard deviation of stock return, (2) the degree to which the option is in-the-money or out-of-the-money, (3) the probability of early exercise, (4) the time to expiration of the option, and (5) the dividend yield of the stock. A new method of examining option market efficiency is developed and tested.     

Dividend Irrelevance and Accounting Models of Value

In accounting models of value, dividends typically appear to have a strong positive relationship with value despite theoretical reasons to expect dividend displacement. We show that this result is driven by the relationship between dividends and both core earnings and other information derived from the valuation error in the prior year. Where core earnings can be effectively modelled in a specification including other information, dividend displacement is no longer rejected. Under these circumstances dividends exhibit weak incremental predictive power for earnings and earnings expectations and hence have little impact on value. We show that valuation models are sensitive to model specification and should be used with caution when testing the value impact of firm characteristics or accounting numbers.     

Do Co‐Opted Directors Influence Dividend Policy?

We explore how co‐opted directors affect dividend policy. Co‐opted directors are those appointed after the incumbent chief executive officer (CEO) assumes office. Our results show that co‐opted directors lead to a weaker propensity to pay dividends and, for dividend‐paying firms, significantly lower dividend payouts. We also show that board co‐option has more explanatory power for dividend policy than does the traditional measure of board effectiveness, that is, board independence. Exploiting the passage of the Sarbanes‐Oxley Act as a natural experiment, we show that the effect of board co‐option on dividend policy is more likely causal, rather than merely an association.     

Closed-form valuation of American call options on stocks paying multiple dividends

An American call option on a stock paying a single known dividend can be valued using the Roll–Geske–Whaley formula. This paper extends the Roll–Geske–Whaley model to the n dividends case by using the generalized n-fold compound option model. In this way this paper offers a closed-form solution for American options on stocks paying n known discrete dividends. Moreover, the model also offers the critical values of the early exercise boundaries at each ex-dividend date instant, making it easy to define an early exercise strategy. Numerical examples are included to illustrate this approach.     

Dividend Policy Irrelevancy and the Construct of Earnings

This paper analyzes the characteristics of earnings in valuation settings where the dividend policy is irrelevant to equity value. The paper first demonstrates an equivalent characterization of dividend policy irrelevancy (DPI) in a general linear dynamic. It then proceeds to show how DPI leads to ideal and practical constructs of earnings and examines their analytical properties. We further demonstrate that earnings properties can be used to deduce the core approach in practical equity valuation – namely, measures of growth in expected earnings explain the price to forward earnings ratio. However, unlike dividends, free cash flow cannot generally be claimed to be irrelevant to value.     

Earnings,dividend policy,and present value relations: Building blocks of dividend policy invariant cash flows

In a Modigliani-Miller world, dividend policy is irrelevant for asset pricing. This article searches for cash flows with two characteristics: like dividends, asset prices can be calculated from their present values and, unlike dividends, they are invariant with respect to changes in dividend policy. Segmented and aggregate residual income measures with these features are identified under two assumptions: dividend policy does not alter risk premiums and income earned from investments associated with dividend policy includes unrealized capital gains and losses. The results hold for otherwise arbitrary risk premiums in the general no-arbitrage approach to the valuation of uncertain income streams.     

Options and Bubbles

The Black-Scholes-Merton option valuation method involves derivingand solving a partial differential equation (PDE). But thismethod can generate multiple values for an option. We providenew solutions for the Cox-Ingersoll-Ross (CIR) term structuremodel, the constant elasticity of variance (CEV) model, andthe Heston stochastic volatility model. Multiple solutions reflectasset pricing bubbles, dominated investments, and (possiblyinfeasible) arbitrages. We provide conditions to rule out bubbleson underlying prices. If they are not satisfied, put-call paritymight not hold, American calls have no optimal exercise policy,and lookback calls have infinite value. We clarify a longstandingconjecture of Cox, Ingersoll, and Ross. (JEL G12 and G13)     

Biases in option prices : Evidence from the foreign currency option market

This paper examines a European call model of option pricing over a data set which does not suffer from the early exercise problems that have plagued earlier studies of call options on common stocks. We specifically examine a data set of American call prices on spot foreign exchange for which it is plausible to apply an adjusted version of the Garman-Kohlhagen (1983) and Grabbe (1983) European call option model. We make adjustments for interest rate risk and find that the model is nearly unbiased in the valuation of foreign currency options. We conclude that the Geske-Roll (1984) conjecture about dividend uncertainty creating biases in stock option prices holds analogously in the foreign currency option market. Interest rate differential risk (analogous to risky dividends) thus appears to be an important element in the valuation of foreign currency options.     

Value relevance of earnings,book value and dividends in an emerging capital market: Kuwait evidence

This study examines the value relevance of book value, earnings and dividends for a sample of all non-financial firms listed on the Kuwait Stock Exchange (KSE) over the period 2003–2009. After controlling for the impact of the global financial crisis, empirical results provide evidence on the value relevance of book value and earnings in the KSE. The results indicate that dividends are not a value-relevant in the presence of earnings in the valuation model. However, when dividends are used as a substitute for earnings they become value-relevant. The explanatory power of the model including both book value and earnings is almost indistinguishable from that of book value and dividends. Furthermore, splitting earnings into dividends declared (or paid) and earnings retained results in each of the two variables becoming value-relevant. The average dividend pay-out ratio tends to increase over time, indicating that dividend policies do matter in the KSE and that dividends in Kuwait are used to boost investors' confidence and support share price, noticeably during the global financial crisis period.     

Efficient option pricing on stocks paying discrete or path-dependent dividends with the stair tree

Pricing options on a stock that pays discrete dividends has not been satisfactorily settled because of the conflicting demands of computational tractability and realistic modelling of the stock price process. Many papers assume that the stock price minus the present value of future dividends or the stock price plus the forward value of future dividends follows a lognormal diffusion process; however, these assumptions might produce unreasonable prices for some exotic options and American options. It is more realistic to assume that the stock price decreases by the amount of the dividend payout at the ex-dividend date and follows a lognormal diffusion process between adjacent ex-dividend dates, but analytical pricing formulas and efficient numerical methods are hard to develop. This paper introduces a new tree, the stair tree, that faithfully implements the aforementioned dividend model without approximations. The stair tree uses extra nodes only when it needs to simulate the price jumps due to dividend payouts and return to a more economical, simple structure at all other times. Thus it is simple to construct, easy to understand, and efficient. Numerous numerical calculations confirm the stair tree's superior performance to existing methods in terms of accuracy, speed, and/or generality. Besides, the stair tree can be extended to more general cases when future dividends are completely determined by past stock prices and dividends, making the stair tree able to model sophisticated dividend processes.     

The relative pricing of European dividend futures and their predictive abilities for index returns

We use dividend futures prices to derive a dividend future discount model. Arbitrage arguments postulate that the sum of discounted dividend futures prices should equal the index price, i.e. the sum of discounted dividends. We analyze whether this relation holds and find that the two valuation approaches lead to a different valuation of expected dividends. These observations indicate that dividend futures and index prices seem to provide the investor with different information on future dividends. We further show that the difference in valuation can be used to forecast index returns and show how an investment strategy can exploit this predictability.     

Why individual investors want dividends

The question of why individual investors want dividends is investigated by submitting a questionnaire to a Dutch investor panel. The respondents indicate that they want dividends partly because the cost of cashing in dividends is lower than the cost of selling shares. Their answers provide strong confirmation for the signaling theories of Bhattacharya (1979) [Bhattacharya, S., 1979. Imperfect information, dividend policy and the “bird in the hand” fallacy. Bell Journal of Economics 10, 259–270] and Miller and Rock (1985) [Miller, M., Modigliani, F., 1961. Dividend policy, growth and the valuation of shares. Journal of Business 34, 411–433]. They are inconsistent with the uncertainty resolution theory of Gordon (1961, 1962) [Gordon, M., 1961. The Investment, Financing, and Valuation of the Corporation, Richard D. Irwin, Homewood, IL; Gordon, M., 1962. The savings, investment and valuation of a corporation. Review of Economics and Statistics 44, 37–51.] and the agency theories of Jensen (1986) [Jensen, M.C., 1986. Agency costs of free cash flow, corporate finance and takeovers. American Economic Review 76, 323–329] and Easterbrook (1984) [Easterbrook, F.H., 1984. Two agency-cost explanations of dividends. American Economic Review 74, 650–659]. The behavioral finance theory of Shefrin and Statman (1984) [Shefrin, H.M., Statman, M., 1984. Explaining investor preference for cash dividends. Journal of Financial Economics 13, 253–282] is not confirmed for cash dividends but is confirmed for stock dividends. Finally, our results indicate that individual investors do not tend to consume a large part of their dividends. This raises some doubt as to whether a reduction or elimination of dividend taxes will stimulate the economy.     

Taxes,International Clienteles and the Value of ADR Dividends

An alternative approach to valuing dividends is developed and applied to American Depositary Receipts (ADRs) on Australian stocks. The values of ADR dividends are estimated from the period when, due to different ex‐dividend dates, the ADRs and their underlying stocks trade with differential dividend entitlements. Australian ADR dividends are valued at less than their face value and the dividends on the underlying stocks are valued at more than their face value. This suggests that ADR dividends are priced by a clientele of US investors placing little value on the imputation tax credits attached to the dividends and that a clientele of Australian resident investors, who obtain value from imputation tax credits, price the dividends on the underlying stock.     

AN ANALYSIS OF SHAREHOLDER REACTION TO DIVIDEND CUTS AND OMISSIONS

In this paper the proposition is tested that stock market reaction to a dividend change is a function of its information content. A multiple regression model is formulated to identify the factors that contribute significantly to the capital loss suffered by shareholders when firms decide to cut/omit dividends. Results indicate that, in conformity with the information content hypothesis, the announcement period capital loss induced by a dividend deduction significantly depends on the percentage change in dividends, the size and risk of the firm, and the price performance of the firm's stock in the immediately preceding period. The results further reveal that (1) simultaneous announcements of poor earnings cause larger capital losses; (2) prior announcements of loss/lower earnings, strikes, etc. attenuate the negative impact of dividend cuts; (3) managerial reassurances that the dividend reduction is growth-motivated produces a weakly favorable effect, and (4) institution of stock dividends concurrently with the dividend cut significantly reduces the negative valuation effect. It is concluded from the evidence that stock market reaction to managerial signals is a function of the perceived costs associated with these signals.     

New Evidence That Taxes Affect the Valuation of Dividends

This paper uses British data to examine the effects of dividend taxes on investors' relative valuation of dividends and capital gains. British data offer great potential to illuminate the dividends and taxes question, since there have been two radical changes and several minor reforms in British dividend tax policy during the last 30 years. Studying the relationship between dividends and stock price movements during different tax regimes offers an ideal controlled experiment for assessing the effects of taxes on investors' valuation of dividends. Using daily data on a small sample of firms, and monthly data on a much broader sample, we find clear evidence that taxes affect the equilibrium relationship between dividend yields and market returns. These findings suggest that taxes are important determinants of security market equilibrium and deepen the puzzle of why firms pay dividends.     

上市公司的股利政策究竟迎合了谁的需要——来自中国上市公司的经验数据

上市公司为什么要支付股利?传统的税收理论、信号模型以及代理假说等公司股利政策理论实际上都没最终完整地解释清楚这个"股利之谜"。最近美国学者Baker和Wurgler从行为公司财务角度出发提出了股利迎合理论,该理论认为公司支付股利的主要原因在于,管理者为了提高股价理性地迎合了股东对股利不断变化的偏好。本文认为,Baker和Wurgler提出的股利迎合理论忽略了上市公司股权结构的特征。在股权高度集中的上市公司里,管理者制订股利政策主要是为了迎合大股东的需求,广大中小投资者的股利偏好往往被忽视。本文以1994年至2005年间我国的上市公司为样本进行检验,研究结果支持了我们所提出的理论观点。     

中美资本市场财富效应比较研究

本文从股利支付和资本利得的角度对比分析了中美资本市场财富效应水平,并对其影响因素展开分析。研究发现,我国资本市场财富效应不够显著,A股上市公司虽然具有较高的股利支付倾向,但股利支付率和资本利得属性较弱;股利支付行为迎合监管动机较强,融资分红特征明显,股票股利支付行为具有高送转特征;资本市场估值中枢下移,指数波动性较高,资本利得属性较差。美股上市公司虽然股利支付意愿不及A股,但股利支付率和资本利得属性较强,且上市公司不存在明显的融资分红倾向。基于此,本文从控股股东属性、企业生命周期、管理层侵占行为、宏观经济和资本市场环境四个维度对A股市场财富效应水平展开深入探讨,并从提升公司质量、改善盈利能力、调整投资者结构、加强市场建设、优化股利监管制度五方面提出了改善我国资本市场财富效应的政策建议。     

An option pricing approach to corporate dividends and the capital investment financing decision

In light of a growing trend toward viewing dividends as an investable asset class, this article opens up a new perspective on their valuation. We show that dividends can be viewed as options on the cash flow of the firm. That is, a firm either pays zero dividends, in which case the option expires out‐of‐the‐money, or it pays a positive dividend, the value of which corresponds to the option's moneyness. The exercise price is determined by the capital budget, the flexibility of the company to use external financing, and whether it has minimum and maximum dividends. The model is also capable of accommodating a stochastic capital budget, which allows for uncertain growth opportunities and their correlation with the firm's cash flows. We also present an application of the model using actual data for a large multinational company.