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Payout Yields and Stock Return Predictability: How Important Is the Measure of Cash Flow?

  • Gregory W. Eaton and Bradley S. Paye

Abstract

We compare the stock return forecasting performance of alternative payout yields. The net payout yield produces more accurate forecasts relative to alternatives, including the traditional dividend yield. This remains true even after excluding several years during the Great Depression when issuance was unusually high. The measure of cash flow used to form the yield matters economically. Long-term investors’ hedging demand for stock is considerably reduced when net payout, rather than dividends, serves as the cash-flow measure. An agent relying on an incorrect payout measure is willing to pay an economically significant “management fee” to switch to the optimal policy.

Copyright

Corresponding author

* Eaton, gregory.eaton@okstate.edu, Spears School of Business, Oklahoma State University; Paye (corresponding author), bpaye@vt.edu, Pamplin College of Business, Virginia Polytechnic Institute and State University.

Footnotes

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1

We thank Jacob Boudoukh, Alexander Butler, John Campbell, Indraneel Chakraborty, Jakub Jurek, Andrew MacKinlay, Paulo Maio (Financial Management Association (FMA) discussant), Paul Malatesta (the editor), Roni Michaely (the referee), Thomas Quistgaard Pedersen, James Weston, and conference and seminar participants at Rice University, Southern Methodist University, the University of Georgia, and the 2014 FMA Annual Meetings for helpful comments. Jakub Jurek and Luis Viceira generously furnished MATLAB code for computing optimal portfolios using results from Jurek and Viceira (2011). Paye acknowledges support from the Center for Research in Econometric Analysis of Time Series (CREATES) (DNRF78), funded by the Danish National Research Foundation, as well as a 2013 summer research grant from the University of Georgia. Previous versions of this article circulated under the alternative titles “Net Cash Disbursements to Equity Holders: Implications for Stock Return Predictability and Long-Horizon Consumption and Portfolio Decisions” and “Predictable Variation in Stock Returns and Cash Flow Growth: What Role Does Issuance Play?”

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References

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