Putting a Piece in the Dividend Puzzle

Abstract: Empirical research shows that dividends affect firm value. This contradicts early financial theory and has therefore captivated researchers for decades. The true relationship between dividends and firm value has not yet been established and the research area has thus been named the Dividend Puzzle. At the heart of the Dividend Puzzle is the relationship between dividend policy and firm performance. This paper investigates the relationship between dividend payout ratio and excess returns, since the relationship between these two metrics has received little to no attention in financial research. Similar studies examining other metrics of dividend policy and firm performance are plentiful, but studies looking at these two in particular are rare. A cross-sectional regression is conducted using data from the 30 firms in the OMX30 Index over a span of 10 years. The results show a significant negative relationship between dividend payout ratio and excess returns. This relationship is in line with financial theory but contradicts the implications of similar research. While the results from this study are of interest to managers and investors, further research is required to gain full understanding of the true relationship. This would in turn contribute to the solution of the Dividend Puzzle.