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Reaching for Dividends

This paper examines the duration of individual stocks, i.e., the sensitivities of their prices to changes in interest rates. Counter to the intuition from the dividend discount model, we find that stocks that pay higher dividends tend to have longer duration, experiencing greater price declines (increases) when interest rates rise (fall). Using data on mutual fund flows and institutional investor holdings, we find evidence of "reaching for dividends": when interest rates fall, investors switch more funds to income-oriented equity mutual funds, and the weights of high dividend stocks in the portfolios of income-dependent institutions such as income funds and insurance companies increase. The resulting higher demand for high dividend stocks appears to increase the sensitivities of their prices to interest rate changes, thereby contributing to their long duration puzzle.