DP4813 Can Buybacks Be A Product of Shorter Shareholder Horizons?

Author(s): José-Miguel Gaspar, Massimo Massa, Pedro Pinto Matos, Rajdeep Patgiri
Publication Date: December 2004
Keyword(s): institutional investors, investment horizon, investor catering, payout policy, repurchases, shareholder heterogeneity, short-termism
JEL(s): G32, G35
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=4813

We examine how shareholder investment horizons influence firms? payout decisions. We find that US firms held by short-term institutional investors have a higher propensity to buybacks shares instead of using dividends. Firm managers seem to respond to the preferred payout policy of investors in their shareholder base. Share buybacks are used by if managers want to appease short-term oriented shareholders, while firms pay dividends if their stock is mostly held by long-term investors who have less need to liquidate their investment and may have a better tax treatment with dividends. We document two effects of investor pressure: for firms initiating payouts through a share buyback we find that the market reaction is lower the more short-term investors are holding the firm?s stock, because such payout decisions are less well monitored; for firms that have already a payout policy at present, the market reacts more positively (and only temporarily) to a buyback in line with investor catering effects. Our findings help explain some of the puzzling recent findings relating the rise in institutional investment to a higher use of share buybacks.