Divi dends and Mar ket Ef fi ciency: A Multi- Index
Arbitrage In vestment Strat egy*
By Robert A. Kun kel, Uni versity of Wis consin Osh kosh, Col lege of Busi ness Ad ministra -
tion, Osh kosh, WI 54901; Mi chael C. Ehr hardt, Department of Fi nance, Sto kely Man age -
ment Cen ter, Uni versity of Ten nessee, Knox ville, TN 37996- 0540; and Gregory A.
Kuhlemeyer, University of North Colo rado, De partment of Fi nance, Col lege of Busi ness
Administration, Gree ley, CO 80639
Ab stract
This pa per em ploys both a multi- index model and lin ear pro gramming to cre ate a short and
long port folio of se curities that have iden tical ex- post risk lev els. While the two port fo lios
have iden tical ex- post risk, the long port fo lio is com posed of stocks with high divi dend
yields and the short port fo lio is com posed of stocks with low divi dend yields. By short ing
the low divi dend yield port fo lio and pur chasing the high divi dend yield port folio, we cre ate
a zero in vestment port fo lio with iden tical risk pat terns. We then ex amine whether in ves tors
can earn an ab normal re turn on this Investment Strat egy in a sub sequent test ing pe riod. This
paper adds to the divi dend lit erature in three pri mary ar eas. First, it pro vides a more pow er -
ful and ro bust model for ana lyz ing the re lationship be tween divi dends and stock re turns
than single- index model. Sec ond, it helps re solve the divi dend rele vancy ques tion by re ject -
ing the Dividends In crease Re turns The ory. Third, we find that our in vestment strat egy pro -
vides ex- ante in formation for in vestors to earn an ab normal re turn that does not sup port
market ef fi ciency.
Introduction
The re lationship be tween stock ...