Does the Tax Clientele and Cash Dividend Effect distort a company’s cumulative abnormal returns? An empirical investigation of firms listed in Pakistan Stock Exchange

Abstract

This research works with an aim to investigate the effect of cash dividends on share prices such that the focus concerns the interaction between dividend announcement and tax clientele effect in the context of Pakistan capital markets. In this case, the main hypothesis to test is the one postulating that: CAR to DPS, implying that there is a relationship between cash dividends per share and Cumulative Abnormal Return, where changes in the former are expected to bring equities’ Cumulative Abnormal Return responses in unique form due to the nature where different actual amounts paid out as cash dividend per share signal healthy balances to investors. Using an event study approach, therefore, the study measures the short-term market response to dividend declaration, establishing a relationship between DPS and subsequent CAR fluctuations. By using regression analysis, the strength and the kind of relationship between these variables is determined with combined data of more than two years of various firms opted as the samples from Pakistan Stock Exchange. The results of this initial analysis show that rates of increase in DPS do relate positively with CAR, evidence that the market views dividend signals as positive signals of stability or future growth. Surprisingly, it also reveals patterns that relate back to the tax clientele hypothesis, according to which investors’ tax statuses largely determine their attitudes toward dividends and subsequent share prices in the vicinity of dividend notices. The study provides insights to advance knowledge about how taxation policies and dividend regimes in emerging economies work and influence investors and financial markets. The implications of the research are as follows: This research will help fill the above gaps and is expected to be useful to investors, policymakers, and corporate managers in terms of offering knowledge on the best approach to the strategic financial planning and formulation of the monetary and fiscal policies for similar emerging market environments.