Do Dividend Payouts Reduce Share Prices?

|
 |  Includes: ABT, CB, JNJ, KMB, KO, LNT, MKC, MMM, PEP, T
by: David Van Knapp

From time to time, one runs across a statement such as the following:

And don't be fooled into thinking that relying on the dividend rather than selling [shares] leaves you with the original investment intact. It doesn't. When stocks pay out their dividends, the share price adjusts downward to compensate for the payout.

This quote was taken from a recent MarketWatch article (available here), written by a Wall Street Journal writer who should know better.

Share prices do not adjust downward to reflect the dividend being paid out. To believe that is to make the fundamental error of confusing book value with stock price.

If companies recomputed book value minute-by-minute, it is true that the book value would drop by the amount of cash paid out in dividends at the moment the cash went out the door. It is also true that the company’s book value would rise by some amount every time it sold a product. Book value is constantly changing by miniscule amounts every minute of every day. Companies report it once per quarter.

The share price, on the other hand, is not determined by book value, it is determined by the market. Over long periods of time, it is true that share prices roughly correlate with book value per share. But the correlation is inconsistent and subject to thousands of other factors that go into the “price discovery” that takes place every day that the markets are open.

Let’s look at a few recent dividends and see what the stock prices actually did on two key dates: the declaration date and the payout date. I selected these 10 stocks randomly from among a watch list of good dividend stocks that I follow.

Stock

Ticker

Decl.

Date

Div. as % of Price

Change in Price %

Payout Date

Div. as % of Price

Change in Price %

Abbott Labs

ABT

2/19/10

0.8%

-1.1%

5/15/10

TBD

TBD

Alliant Energy

LNT

1/15/10

1.2%

0.1%

2/12/10

1.3%

1.9%

AT&T

T

3/26/10

1.6%

0.3%

5/3/10

TBD

TBD

Chubb

CB

2/24/10

0.7%

0.8%

4/6/10

0.7%

-0.7%

Coca-Cola

KO

2/18/10

0.8%

1.0%

4/1/10

0.8%

0.5%

Johnson & Johnson

JNJ

4/22/10

0.8%

-0.9%

6/15/10

TBD

TBD

Kimberly-Clark

KMB

2/23/10

1.1%

0.8%

4/5/10

1.1%

-0.3%

McCormick

MKC

3/31/10

0.7%

0.2%

4/26/10

0.7%

0.1%

Pepsico

PEP

3/15/10

0.7%

1.6%

6/30/10

TBD

TBD

Three M

MMM

2/9/10

0.7%

1.5%

3/12/10

0.6%

0.1%

Click to enlarge

(Note on calculations: The percentage of dividend to stock price was made based on the closing price of the stock the day before the key date. The price-change percentages were calculated using the key date’s closing price divided by the prior day’s closing price. All percentages were rounded to one decimal place.)

As you can see from the table, stock prices do not “adjust” by the amount of the dividend when the dividend is paid out. That’s an old wives’ tale. This limited sample suggests that sometimes the price goes up, sometimes it goes down. What is happening is that the myriad factors that go into determining the price of every stock are operating. The dividend payout is just one of those factors, and apparently not a very important one at that.

One other interesting note from the table is that the stock prices usually went up on the day of the dividend announcement. While I would not draw any general conclusions from this limited sample, that price rise makes sense to me: A dividend announcement is usually good news.

The concept that dividend payouts cause share prices to fall also flies in the face of multiple studies that show that dividend-paying stocks have the best long-term growth records. For an article that discusses this, see “Why I Love Dividends”. The growth “versus” dividends debate is laid out not only in the article, but also in the lively debate that it spawned in the comments following the article.

Disclosure: Long ABT, LNT, T, CB, JNJ, PEP, MMM