special dividends and (in)efficient markets

As I’ve already blogged about, many US companies are paying large special dividends to shareholders before December 31st. Either that or they’ve accelerated payouts planned for 2013, distributing them this year instead.  The idea is to avoid the presumably much higher taxes the IRS will be levying on dividends next year.  Some companies, like COST, appear even to be borrowing money to fund distributions.

The after-tax value of a dividend payment in 2012 to a taxable shareholder is likely greater than one made in 2013.  In addition, it may be possible to manufacture a tax loss from the transaction as well–something that would add another bit of extra value.  So it’s not surprising that stocks paying special dividends should be strong performers in advance of the day they start trading ex dividend.

I’ve been noticing another feature they seem to have, however, that I hadn’t anticipated.  The stocks appear to be “carrying” a large part–and in one case I’m aware of, all–the special dividend.  Here’s what I mean:

If a company’s stock is trading at $100 a share the day before it goes ex a $10/share dividend, then in a flat market you’d expect the stock to drop to $90 when ex trading commences the next day.  But the current crop of special dividend stocks aren’t acting true to form.  They’re trading at $93 or $95 or higher instead.

What could be causing this behavior?

I haven’t seen any cases where important news breaks on the day the stock goes ex.  The only thing that I can see is that a buyer is no longer entitled to the special dividend.

I have only one explanation, and a semi-crazy one at that.  I’ve concluded that buyers don’t know that the stock has paid out a large dividend.  Buyers think instead that the stock has just made a large downward random fluctuation that makes it an attractive purchase.

I have two thoughts:

–what I’ve just described could never happen in an efficient market, which tells you something about how much attention Wall Street is currently paying to stocks; and

–I wish I’d thought of this possibility before companies started paying special dividends, rather than when they’re finishing up.

“carrying” the dividend

Happy Thanksgiving

Today’s post will be short, since I’ve got a pretty full calendar of parade watching, turkey eating and football on TV.

dividend carry, a bit of arcana–but maybe important nonetheless

Back when dividend payments were a more significant part of total return, and of investor desires, than they have been for the past twenty years or so, market watchers occasionally remarked on the fact that some dividend-paying stocks “carried” part or all of their payout.  That is, they did not decline on the day the stock started trading ex-dividend (meaning the seller is entitled to the dividend payment, not the buyer) by the full amount of a soon-to-be-made dividend payment.

This phenomenon may start to become important again, both because aging Baby Boomers are more interested in current income than they have been in the past, and because the dividend yield on the S&P 500 is higher today than it has been (except at the bottom in bear markets) for a quarter century.

A recent example:

On November 2nd, WYNN  declared an $8 per share dividend.  It’s payable on December 7th, to shareholders of record on November 23rd.  The stock started trading ex dividend on November 19th.  (The difference between the last two dates is to allow for the lag between the trade date, when the bargain is struck, and the settlement date, when the money changes hands and the new owner officially takes possession of the stock.)

WYNN closed at $108.99 on November 18th.  That’s the equivalent of $100.99, ex dividend.  On November 19th, the major stock market indices were flat.  But WYNN opened at $101.33, traded in a range between $101.25 and $103.70, and closed at $102.99, up $2, or just a tad under 2%, on the day.  The stock never touched the theoretical ex dividend price.

Why does something like this happen?  I don’t know…but it does.  I haven’t studied the phenomenon closely, but my impression is that this happens mostly with better quality companies.  You might argue that the market is super-efficient, realizes that excess cash is like a dead weight and concludes that the stock is more attractive after making the payout and, so to speak, unloading extra baggage.  On the other hand, you might suspect the unusual support comes from inattentive investors who don’t realize that the stock has gone ex, think the stock has just made a random movement down, and swoop in to pick up a “bargain.”

This is not to say that dividend-paying stocks like this will outperform the averages.  But the returns may be a few percentage points better than what you could reasonably expect, given the risk inherent in owning the issue and its growth prospects.

footnote

You might check my “carry” thesis by looking at the price action of comparable stocks on the same day, last Friday in the case of WYNN, to see if they too had similar better-than-the-market performance, even though they didn’t go ex dividend.  The closest matches for WYNN are MGM and LVS.  Both went up on the 19th, MGM by less than WYNN, LVS by more.

My view is that although all three have operations in both Las Vegas and Macau they’re not very similar companies at all.  LVS and MGM have much higher financial leverage than WYNN.  And LVS has its spectacular success in Singapore.  But I think the best way to see the differences is to look at the stocks’ performances from their peak levels in 2007 and from the market bottom in 2009.

From the bottom, LVS is up about 35x, WYNN only about 6x and MGM less than that.  But WYNN is now around 75% of its 2007 peak, while LVS is less than a third of the way back and MGM is about a tenth.  I don;t think comparing the price action of WYNN, MGM and LVS on the 19th, although the obvious first thing to do, tells you much at all.