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Karl R. Knapp – Article Summary
Shefrin, H. M. & Statman, M. (1984). Explaining investor preference for cash dividends. Journal
of Financial Economics, 13, 253-282.
Hypothesis / Relevant Factors Discussed / Conclusion / Your Take
H1: Investors prefer to receive dividends in cash
H1(2): individual preference for cash dividends can be explained by two “new” theories of
individual choice behavior:
 Theory of self-control (Thaler & Shefrin)
 Prospective Theory (Kahnerman & Tversky)
Why do so many investors have a preference for cash dividends?
In a perfect world with no taxes or transaction costs, then dividends and capital gains are perfect
substitutes for each other (investors are indifferent, ie dividends are irrelevant).
Where taxes and transaction costs exist, tax rate on dividends usually exceed the tax rate
on capital gains. By this, investors should prefer no dividends as long as the firm has
investment projects whose returns are expected to exceed WACC.
In spite of this, people do prefer to receive dividends.
 Theory of self-control (Thaler & Shefrin, 1981). The temptation to spend comes more
from current income and less from capital income. People have trouble saving so they
prefer dividends to ‘homemade’ dividends because they do not want to dip into the main
equity investment because it violates their self-control to not dip into the investment.
(Lack the ability to delay gratification.)
o Uses a principal-agent framework – principal desires self-denial, agent desires
immediate gratification.
o Can manipulatae the doer’s opportunities by influencing their constraints
o An indivdual who wishes to safeguard portfolio wealth may implement a rule that
capital cannot be consumed, only dividends.
 Prospect theory (Kahnerman & Tversky) – The form in which alternatives are presented
(the way decisions are framed), affect the ultimate decision, even though the form is
immaterial to the analysis. This is especially true for risky decisions.
o Preferences will be defined on gains and losses rather than the final asset position
o In situations with large capital gains or large capital losses, dividends are
o They feel the gain potential (from dividends) is a super added benefit. Should the
stock fall in value from their purchase level, they console themselves that the
dividend provided a return on their cost.
 Clientele Effect – strength of preference for dividends is not the same for all investors.
Investors will invest in stocks that are most likely to satisfy their preference.