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Stock Dividends and Splits: Anticipation, Signaling, and Market Response

The literature on stock distributions has documented that there is a positive stock market response to the announcement of a stock distribution and a negative relation between the market response and the presplit price of the stock. The positive market reaction has been attributed to (1) the benefits that may result from a lower per share stock price and (2) a signal from management about their favorable private information. The negative correlation between the market reaction and the presplit price may indicate (1) that the firm's share price affects the extent to which the market anticipates the distribution and/or (2) that the share price acts as an inverse proxy for the credibility of the signal. Empirical evidence supports both the anticipation and credibility-of-signal hypotheses. The anticipation effect can exist only if the anticipated event has cash flow consequences for investors. Therefore, the evidence supporting an anticipation effect implies that the positive market reaction to stock distributions is partly due to trading range benefits. Likewise, the credibility-of-signal model presupposes a decision by management to signal the market. Thus, the evidence also implies that the market reaction is partly due to a favorable signal from management.