Dividend puzzle

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The dividend puzzle, which has evolved from one of Modigliani and Miller’s theorems (1959 and 1961), is directed at the claimed irrelevance of dividends in the valuation of shares. The message here is that dividends, from the investor’s point of view, should have no effect on the process of valuing equity because the investor already owns the firm and, thus, he/she should be indifferent to either getting the dividends or having them re-invested in the firm. On this basis, therefore, it should not matter to the investor whether firms pay dividends or not.

The above, however, has proven futile as, in the majority of the cases, investors do demand some type of a dividend payment. The reasons for this have been attributed to a wide range of factors, including, among others, uncertainties, behavioural issues, tax-related matters, asymmetric information.

[edit] Reference

• Ruben D. Cohen (2002) “The Relationship Between the Equity Risk Premium, Duration and Dividend Yield [download],” Wilmott Magazine, pp 84-97, November issue.