DIVIDEND POLICY AND SHARE PRICE VOLATILITY

ELK ASIA PACIFIC JOURNAL OF FINANCE AND RISK MANAGEMENT ISSN 2349-2325 (Online); DOI: 10.16962/EAPJFRM/issn. 2349-2325/2015; Volume 8 Issue 1 (2017)

www.elkjournals.com ………………………………………………………………………………………………………

DIVIDEND POLICY AND SHARE PRICE VOLATILITY “EVIDENCE FROM KARACHI STOCK EXCHANGE” Dr. Muhammad Yar Khan Assistant Professor, Department of Management Sciences, COMSATS Institute of Information Technology, Wah Cantt, Pakistan. [email protected]

Dr. Wajid Khan Assistant Professor, Department of Management Science, Preston University, Kohat, Pakistan. [email protected] Anam Javeed PhD Scholar, University Utara Malaysia, Kedah, Malaysia [email protected]

Dr. Waleed Mohammed Hamad Al Bassam Vice Dean, College of Economics and Administrative Studies, Imam Muhammad Ibn Saud University, Riyadh [email protected]

ABSTRACT This study has been carried out to find out the relationship of volatility in stock price and dividend policy in Pakistani economy. Dividend payout ratio and dividend yield has been used to measure the dividend policy. The sample has been taken from the three sectors, textile, sugar and chemical sector. The data of 42 companies was extracted from joint stock balance sheet analysis for the period of 2006-2007. Price volatility is a dependent variable regressed against “dividend yield” and “dividend payout ratio”. Our results were consistent with previous literature. The study documented positive and significant results between these variables. Results are consistent with the study of Rachim and Allen (2010); but contradict with Baskin’s (1989). The analysis find positive significant regression coefficient with volatility in price and dividend yield. Study also carried out a positive significant coefficient of price volatility and size. These findings are consistent with the study carried by Allen and Rachmin (2010) and Baskin (1989) on the Austrian and US capital market. This analysis also presents a significant positive coefficient between the debt and price volatility, recommending that the high leveraged firms, have price volatility. Keywords: Pay-out ratio, Dividend yield, dividend policy, price volatility

INTRODUCTION

research articles with empirical results to

The motive behind dividend paid by the

solve this problem but still it need to be

company has always been a topic of

considered and well researched. The

interest for the researchers. There are a

reasons of paying dividend, rate of

number of literatures available on the

dividend and its impact on price and return

reasons of paying dividend and its impact

of stock is a field to explore. Black (1976)

on price volatility. There are many

reported, “The harder we look at the


………………………………………………………………………………………………………

dividend picture, the more it seems like a

of less reliance and confidence of outside

puzzle, with piece that just doesn’t fit

investors, but at the same time large

together”. Corporate

finance literature

insider investors have strong reliance and

provides two schools of thoughts about

confidence on capital market of Pakistan.

the

issue. Firs

This is due to the majority of family owned

philosophy presumed that dividend policy

firms. The Pakistani equity market and

of the firm that is not relevant with the

investment environment has important

value of company introduced by two

characteristics for probing the dividend

philosopher

and

policy and share price volatility. First the

Modigliani in 1961. Miller Modigliani

country equity market starts to develop

theory hypothesized for perfect market.

and grow after liberalization. The second

The second school of thought suggest that

and most important characteristics of

dividend policy does matter and relevant

Pakistan

the firms value. Gordon and Walter in

environment. Pakistani tax environment

(1963) documented in Bird-hand-Theory.

and culture is totally different from the

This theory assumed that shareholders

advanced countries capital markets. There

always like dividends in cash then capital

is no tax on capital gain in Pakistani

gain in future on the investments and to

capital

minimize risks. Gordon and Walter (1963)

withholding tax is on the dividend income.

criticize the MM theory; the MM theory

Due to this withholding tax entities earn

has great disadvantage by lacking the

high profit and don’t announce the

impact of dividend on the firm financing

dividend to the shareholders. Thirdly the

cost. Gordon and Walter argued that lower

dividend distribution in Pakistani equity

payout ratio increase the cost of capital.

market is voluntary. But in some advanced

They documented that shareholder more

countries the dividend distribution is

like for cash dividends rather than the

mandatory

capital gains on their investments. They

Unfortunately in Pakistan major investors

suggest

one percent decrease in

are disagreeing with the dividend and

dividend payout has need compensation of

consider the capital gains (stock price

more than one percent of additional

appreciation) for the sources of return.

growth. In contrast to developed countries

This behavior is due to the family

the equity market of Pakistan has features

concentrated ownership and the influence

dividend

that

of

policy

finance;

Miller

equity

markets

by

market

while

law

like

is

the

ten

in

tax

percent

Korea.


………………………………………………………………………………………………………

of family members in the corporate

know the relationship of dividend policy

policies. Final and most important feature

and stock price volatility. By this study it

of

corporate

can be derived that which variable is

investor

causing more volatile in stock prices and

protection, and agency problem among the

which variable causing less volatile in

mangers and investors. These directly

prices of stock. There may be some

affect the dividend policy and share prices

variables which have no impact on stock

in capital market of economy.

price volatility or not significant. In the

The constant change in the price of shares

next part of this research, researcher has

is a type of risk that is being faced by

presented

different investors.

not

literature starting from 1956 by Lintner

willing to take risk in a normal situations

and ending in 2010 by Dave E. Allen and

and known as risk aversive. So volatility

Veronia S. Rachim.

in price of share, in return volatility in

In third part of the paper data, sample,

their investment in is a topic to be

methodology and model has been discussed

explored and it is vital to them as it is to

by the researcher. Variables used in this

assess the level and magnitude of risk is

study have been defined in the same part.

being faced by them.

In fourth part researcher has presented the

country

governance

is

the

week

practice,

week

Investors are

a

thorough

background of

results and discussion in the form of table OBJECTIVE OF THE STUDY

followed by a brief explanation. Finally



To find what determines the stock

study has been concluded and a relevant

volatility of Karachi Stock Exchange.

list of reference has been given at the end.





To check the relationship of volatility of prices of stock with dividend policy of

LITRATURE REVIEW

Karachi Stock Exchange.

From last few decades, dividend policy is

To explore the correlation between

one major area of debate.

volatility in stock prices and dividend

several studies about dividend policy and

payout ratio of Karachi Stock Exchange.

first discussion started on this topic by

There are

for

Lintner (1956). He gave evidence of

individual investors, firms, foreigners and

impact dividend announcement on share

for all institutional investors who want to

prices.

This

study

will

set

guidelines

After

Lintner,

Miller

and

Modigliani (1961) suggested that different


………………………………………………………………………………………………………

dividend policies are irrelevant to the

announcement of dividend has impact on

wealth of stockholder or it can be said that

future earnings. Before this work of Miller

the wealth of shareholder will remain

and Rock, Ross (1977) and Bhattacharya

unchanged

of

(1979) had also highlighted the signaling

investment policy remain unchanged and

effects of dividend policy. After these

extra dividend payment is being funded by

researchers, Divecha and Morse (1983)

a sale of shares on their fair market value.

also arrived on the same results as

High payment rate of dividend can reduce

previous researchers.

if

all

characteristic

the cost of equity and that in return can bring positive change in the value of firm

After

(Gordon, 1959). Black and Scholes (1974)

conclusions, some area specific research

researched the impact of dividend policy

has been conducted as well. One of them

and dividend yield on share prices and

is in Australian context. Brown, Finn

returns. They find that it is not expected to

and Hancock (1977) empirically proved

explain the possible return on low yield

that profit and dividend announcement are

and high yield can be differentiated. All et

consistent and in return have an impact on

al. (1979) experienced a relatively high

prices of stock just after announcements.

relationship between share returns and

They

dividend yield. In 1985, Miller and Rock’s

dividend and profit have a positive impact

Model

of

on price of share. Blume (1980) repeated

asymmetric information recommended that

the study of Black and Scholes and used a

the

announcement of dividend make

bit different formula for dividend yield. He

available the unknown or unavailable

took the ratio of past twelve month

information about the capital rationing and

dividend payments to the start price of

can make available a chance by that one

those twelve months. The difference is at

can get an idea about the firm’s recent

price as Balck and Scholes (1974) used

operating profit. Once company earnings

the price of end period of 12 months.

have been estimated, then these can be

Baskin (1989) researched the level of

used to forecast the firm’s future earnings

significance of dividend policy in respect

(Khan et al., 2014; Riaz et al., 2013). So it

of determinant of volatile return of share

can

following

prices. He presented a high correlation

statements of Miller and Rocks that the

between dividend yield and price volatility

be

was

built

proved

on

from

the

the

basis

these

general

suggested

that

discussions

both

and

of these,


………………………………………………………………………………………………………

and also between payout ratio and price

researchers. Sujata Kapoor and Kanwal

volatility. He also added control variables

Anil

of firm size, debt ratio and earning

Dividend

volatility.

Information Technology Sector;

He

reported

a

large

and

(2008)

studied

payout

determinants

ratio

in

of

Indian CNX

highly significant coefficient of dividend

Information technology listed firms in

yield.

India. They studied time period of 2000 to

Al-Malkawi (2007) came up with results

2006 which covers recession and boom

that in this world of highly uncertain about

period of IT sector in India.

future and inconsistent information, capital gain in form of retained earnings is valued

In

is a different way than dividend paid.

Chaudhary

Dividend can be considered as “A bird in

worked on dividend policy and share price

hand” and capital gain can be considered as

volatility using the past decade data

“Two in Bushes”, so a bird in hand is

ranging from 1991 to 2000 of Karachi

better than two in bushes. Ross et al

Stock

(2008) discussed in detail the agency cost;

responsiveness of price volatility and

that

interest between

dividend yield has been increased in this

principal and agent. This issue arises

said period. Payout variable have an impact

when management acts in their own

but at low level of significance. According

benefit

the

to researcher Debt ratio and size have a

wealth of share holder by adopting a

significant positive effect on volatility of

reasonable dividend policy. Attiya Y.

prices of shares in the given period. But

Javed and Hafeez Ahmed came up with

size has a negative effect on previous

determinants

decade according to researchers (Javed and

is

conflict

rather

of

than

of

maximizing

dividend

policy

in

Pakistan. They concluded that listed firm

Pakistan

Mohammed Mohammad

Nishat Irfan

Exchange. According to

and

(2008)

them

Khan, 2011).

in Karachi Stock Exchange depends highly on current income and want to have a

Dave E. Allen and Veronia S. Rachim

consistent dividend po licy. If the earning

(2010) researched on Australian markets

will not be consistent; dividend rate will

and reported that there is a negative

change. Change in level of earning of a

significant relationship the price volatility

company in Pakistan can be seen in the

and payout ratio. According to them the

level of dividends according to the

main determinants of price volatility are


………………………………………………………………………………………………………

debt ratio and volatile earning. According

α 3Szei

α 4 Earng i

α 5 Debt i

εi

to researcher, there was a problem of multicollinearity and because of that

DEPENDENT VARIABLE:

researcher dropped the dividend yield from

PRICE VOLATILITY (PV)

more part of analysis.

This variable has been calculated by using the method that already has been used in

DATA AND METHODOLOGY

literature and was proposed by Parkinson

Most of the data utilized, covered the

in 1980. Return has been calculated from

period from the 2006-2011, was extracted

the daily prices of shares of each firm.

from the financial statements analysis of

From return, standard deviation of each

companies published by central bank. The

firm has been calculated and taken as a

study was conducted on three sector of

measure of price volatility. Standard

Pakistan, the Textile sector, sugar sector

deviation is a measure of variation from

and Chemical sector. The sampled consist

mean value which can best describe the

of 42 firms’ across these sectors. The

volatility in a given stock return.

dividend policy and the stock price volatility relationship have been studied

INDEPENDENT VARIABLES:

by

DIVIDEND YIELD (DVDYLD)

applying

pool

cross

sectional

regression analysis. Share price volatility

DVDYLD has been calculated by adding

is taken as deepened variable and two in

all the yearly dividend paid in cash to

depended variable dividend yield and

common shareholders and dividing this

payout ratio in the model 1.While in model

value by the sum of mean market price of

II stock price volatility is again regress

share in that year.

with the two in depended along the other control variables. Correlation analysis is

EARNING VOLATILITY (ERNING)

utilized to find the association among the

ERNING has been calculated by taking

explanatory variables.

each year variance of earnings before interest and taxes. Variance has been

REGRESSION EQUATIONS SV SV1

α0 α0

α1Dvdyld1 α1Dvdyld

α 2 Payout i

calculated by getting mean of operating εi

α 2 Payout i

income to total assets containing six years in first step. In next step mean of squared


………………………………………………………………………………………………………

deviation from total has been taken as a

firm’s distribution reported in the (Refer

standard deviation of operating income.

Table 5.1). The textile sector contributes 36% in

PAYOUT RATIO (PYOUT) Payout can be calculated in different methods. It can be simply a ratio of DP S and EPS but here researched used the values of total dividend and total earnings to avoid biasness of individual years.

the whole sample and it is consider to most dominant sector of the Pakistani economy. The sugar sector and the chemical sector are distributing the sample in to 36% and 29% respectively. The descriptive statistics of the pooled data is reported in the table 5.1. The sampled

Size (SIZE) In this variable researcher used the total assets as the size of firm and for analysis, the log of total assets has been taken to decrease the value of assets as normally this value is too high and can create problems in analysis phase.

firms are selected across the sectors for the period of six years. The total number of observation is 252. E-View 7.0 is used for the estimation purpose. During analysis some of the observation was drop by the

packages

consider

and

provide

output

245 observations.(Refer Table

5.2) Debt (DA) Debt has been taken by researcher in this study as a measure of leverage. Debt has been divided to total assets to calculate the percentage of debt in the firm. And this ratio has been used to check the impact of level of debt on price volatility.

The Mean value of the Dividend yield is 5.77E-06 which is very low. This means that sampled firms have very low dividend yield. The Median of the Dividend yield is zero, indicates that most of the firms in study sampled not paying the dividend. Earning show the same pattern, the

RESULT AND DISCUSSION DESCRIPTIVE STATISTICS The study was carried on the 42 listed non-manufacturing firm’s form the three major sectors of Pakistan. The sampled

average value is 0.1162 and the minimum value is -15.45. Its mean most the firms in the sample are presenting lose, which affect the dividend yield of the firms across the sectors.


………………………………………………………………………………………………………

The average value of the payout ratio is

correlation coefficient is 0.59 significant at

0.194594 and the deviation in the mean

5% level and consistent with findings of

value is 0.236. That is greater than the

Allen and Rachim (2010). This study also

mean value and indicating the outlier

reports a negative correlation coefficient

observation in data. The dividend yield,

between price volatility and Debt to asset

EPS, Earning and price volatility is

ratio. This finding contradict with both (-

negative skewed while the Payout ratio,

0.01503) Allen and Rachim (2010) and

size and Total assets are negatively

Baskins

skewed.

negative significant correlation coefficient

(1989).

Both

documented a

between these two variables. The size and debt to Asset report a negative correlation

CORRELATION MATRIX The

possible

relations

between

the

coefficient,

contradicting

with

the

variables are reported in the Table 5.3.

findings of Allen and Rachim (2010).

The

and

This suggest in Pakistan most of the firms

significant results showing a relationship

use debt finance to increase the level of

between yield and volatility that are

assets. Large corporations have more fixed

consisted with the results of Allen and

assets and more concern to market

Rachim (2010) in Australian economy;

inspection, this mean they need less debts.

but contradict with Baskin’s (1989) US

Correlation analysis find a positive and

result

The correlation

significant association between the price

coefficient between payout ratio and price

volatility and size of the firm’s and

volatility is negative documenting the

consistent with findings of Allen and

consistent result with Allen and Rachim

Rachim (2 010). This positive coefficient

(2010) and Baskin’s (1989). (Refer Table

between

5.3)

ostensibly indicate that, large business

study documented

of

-

0.643.

positive

size

and

Price

volatility

entities have relatively lower volatility Their study was on the Australia and US

before

respectively. Volatility Earnings have a

liabilities and need less debt to support.

positive

correlation

with

the

offsetting

interest

and taxes

Price

volatility having value of 0.0053. The

REGRESSION ANALYSIS

study documents a relation that is positive

The study has utilized Price volatility as

between volatility of price and size, the

depended variable and regressed against


………………………………………………………………………………………………………

the explanatory variables payout ratio and

square is very close to Baskin (1989). In

dividend yield ratio.

Model I used to

model II again the Price volatility is taken

regress price volatility against dividend

as depended variable and regressed against

payout ratio and yield and results are

dividend

payout, dividend yield,

size

reported

earnings and debt to assets ratio.

The

5.2.

That

shows

positive

relationship between Dividend yield and

analysis

price volatility having t-statistics 8.32

volatility and dividend payout ratio that is

(p=0.000). Suggesting when dividend yield

negative. The regression coefficient is -

is increased then price volatility will also in

2.87 and statistically significant. (Refer

increasing trend. (Refer Table 5.4)

Table 5.6)

But this finding contradicts with findings

These results are in line with Allen and

of

and

Rachmin (2010), reported a negative

Baskin (1989) on Australia and US

significant coefficient (t-statistics - 3.67).

economy

Baskin

Allen

and

Rachmin

respectively.

(2010)

Both

scholars

reported

(1989)

coefficient

also

price

documented

a

documented regression coefficient 0.718

negative insignificant coefficient in his

and 0.6406 respectively. Their result was

studies carried in the US capital market.

not statistically significant. The regression

The study also finds a positive significant

coefficient between Dividend payout and

regression coefficient between Dividend

Dividend yield is “-0.492587”, statistically

yield and price volatility.

insignificant. But this finding was again

contradicts with both the studies of all end

contradicted with Allen and Rachmin

and

(2010) and Baskin (1989). They reported

(1989).They reported negative insignificant

negative and significant coefficient. The

coefficient between these two variables.

overall

coefficient

But in the literature some scholars have

Determination is (R-square =0229) 22%.

reported and suggest a positive coefficient

The dependent variable is 22% explained

for these two variables. This study also

by in depended variables. The F-statistics

carried

value

statistically

coefficient of price volatility and size.

significant. The value of R-square reported

These findings are consistent with study

by Allen and Rachmin (2010) and Baskin

that is carried by Allen and Rachmin

(1989) is .35 and 0.20 respectively. Our R-

(2010) and Baskin (1989) on the Auterilan

regression

is

36.00

that

is

Rachmin

out

(2010)

a

positive

The finding

and

Baskin

significant


………………………………………………………………………………………………………

and US capital market. The regression

relationship according to that the volatility

coefficient determination is (0.409) 40.9%,

in stock price will be less if the payout

suggesting that the independent variable

ratio will be higher. These findings are

explain the price volatility (Depended

consistent with Allen and Rachmin (2010)

variable) by 40 percent. Our R-square is

and Baskin (1989). The size and price

consistent with value reported by the Allen

volatility is positive and significantly

and Rachmin (2010) and Baskin (1989).

correlated. Its means the firms have large

They document R-square value 0.309 and

assets, or in growth, their share prices are

0.2676 respectively. The value of F-

highly volatile. Our finding contradicts

statistics

with Nishat (2002), his study report

is

33.1282

and

statistically

significant. Over all regression model is

negative

coefficient

among

these

suitable and appropriate.

varaibles. This study documented that the volatility in price and dividend yield have no significant relationship. Our analysis

RESULTS AND CONCLUSION This research has been conducted to find the impact of yield of dividend, and payout ratio on the firm’s stock prices and also add to the literature weather the risks of stock are linked with the dividend policy. The study was focused on the Capital market of Pakistan. The sample was draw from three major sector of Pakistan, Textile sector, Suga r sector and Chemical sector. Data was collected of 42 firm’s across these sector, and study time period from 2006-2009.

The

empirical

also

presents

a

significant

positive

coefficient between the debt and price volatility, recommending that the high leveraged firms, have price volatility. Investor and Mangers are more concern about their retunes, price volatility is the major phenomena to increase or decrease their returns. The following research is beacon of light for the investor, to predict the share price of the corporation and know how much their investment is risky.

pooled

regression analysis is used to determine the impact of dividend yield and payout. The analysis finds a significant result that is negative between the volatility of price and payout ratio . This suggests a

LIMITATIONS OF STUDY In this study the researcher used three major sectors of Karachi Stock Exchange; Textile, Sugar and chemical. From first two sectors fifteen firma has been taken and from third twelve firms has been taken


………………………………………………………………………………………………………

as sample. This sample can be increased to

accounting income numbers”, Journal

all sectors and firms can also be increased.

of Accounting Research, 6(2): 157-178.

Researcher used pooled data and run the



Beaver,

W.,

P.

Kettler

and

M.

regression in combination of all sample

Scholes,

(1970),

“The

firms. It can be done separately on every

between

market

determined

sector and even on firm level. This

accounting determined risk measures”,

research study is solely based on Pakistani

The Accounting Review, 45(3): 325-

market as data has been taken from

349.

Karachi

Stock

Exchange.

In

future



association and

Black, F., and M. Sholes (1973), “The

researcher can do it in comparison or can

pricing

take the sample as broader as it can be to

liabilities, Journal of Political Economy,

Asia, Europe or America.

81(4): 637-654. 

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as

determinant

of


………………………………………………………………………………………………………

LIST OF TABLES:

Table 5.1: Sample Distribution by Sector

Sector

No of Companies Selected

%

Textile Sector

15

36%

Sugar Sector

15

36%

Chemical Sector

12

29%

Total

42

100%

Table 5.2: Descriptive Statistics of variables

DVDYLD

EPS

Mean

5.77E-06

5.76E-06

Median

0

0

Maximum

0.000539

Minimum

ERNING

PV

PYOUT

SIZE

TAST

5313264

5313264

14.36674 0.143572

1735391

1735391

0.000539

2.521063 18.92011 1.677644

1.65E+08

1.65E+08

-0.00083

-0.00083

-15.4581

10.4134

33303

33303

Std. Dev.

7.00E-05

7.02E-05

1.06288

1.439424 0.230689 14784617 14784617

Skewness

-4.66715

-4.65729

-12.7789

-0.03874

2.669635

7.12152

7.12152

Kurtosis

99.80369

99.39645

189.9581 3.846514 13.46282

65.32549

65.32549

Obs

246

245

245

245

0.116286 14.36182 0.194594 0

245

245

0

245


………………………………………………………………………………………………………

Table 5.3: Correlation Matrix DVDYLD

PYOUT

PV

ERNING

DA

DVDYLD

1

PYOUT

-0.02787

1

PV

0.472352

-0.09205

1

ERNING

0.096453

-0.05772

0.005395

1.0

Da

-.08841

0.059802

-0.01503

-0.0701

1.0

SIZE

0.551786

0.120832

0.591254

0.03481

-.043

SIZE

1.0

Table 5.4: Depended Variable Price Volatility Variables

Coefficients

t-statistics

P vale

Constant

14.23965

129.6916

0.000

Dividend yield

1.60E-06

8.328099

0.000

Dividend payout

-0.492587

-1.398391

0.1633

R-sqr

0.2293

D-W

1.862

st-Rsqr

0.222

F-statistic

36.00

Note: (*) Indicates significance at 5% level.

Table 5.6 Dependent Variable: Price Volatility Variable

Coefficient

t-Statistic

Prob.

C

14.19981

145.9134

0

DVDYLD

6.26E-07

3.045543

0.0026

EPS

-2510.839

-1.60006

0.1109

ERNING

0.073154

0.702135

0.4833

PYOUT

-0.907787

-2.87808

0.0044

SIZE

4.88E-08

8.286572

0.000

R-sqr

0.409

F-statistic

33.1282

Adj R-sqr

0.396997

Prob (F-stat)

0.000

D-W

1.762151

Note: (*) Indicates significance at 5% level.