The agency theory/excess funds position behind the preceding variables leads to the expectation that utility stocks should have a worse reaction to JAGTRRA than financials based on all but the free cash flow variable.
Taken together, it appears regulatory firms could react differently to JAGTRRA based on financial fundamentals.
Thus, not only is DIVYIELD positively related to CARs, but firms in the highest third DIVYIELD group have significantly greater stock returns associated with JAGTRRA than firms in the lowest third for every case except non-bank financials on the signing date.
Thus, utilities that did not pay a dividend and had higher cash balance experienced lower stock price reactions to the JAGTRRA proposal.
Thus, utilities repeat the pattern from the proposal date that firms with higher market values react worse to the JAGTRRA signing, while banks and non-bank financials with greater market values have a more positive reaction.
This study closely follows the footsteps of Gadarowski, Meric, Welsh, and Meric (2007) who investigate unregulated finns' stock reactions to the JAGTRRA in 2003.
On May 28, 2003, President Bush signed JAGTRRA into law.
The amount of press coverage, the headlines from the news articles, and the status of and actions on the bills in Congress that led to JAGTRRA strongly suggest that investors were surprised by both the Proposal and JAGTRRA.
Figure 1 shows the number of news articles per day published in The Wall Street Journal that contained the words "dividend", "tax", and "cut" in the citation or abstract per ABI/Inform, for the period starting December 1, 2002, about one month before the date of the Proposal, and ending June 30, 2003, about one month after Congress enacted JAGTRRA. We note that the daily article count peaks around the date of the Proposal (January 7, 2003), fades over the next few days, rises occasionally in the following months, and then reaches its highest and longest peak around the enactment of JAGTRRA in late May.
The market reaction to events such as the Proposal and JAGTRRA depends on two factors: whether investors care about the dividend tax rate of individuals, and if so, how they expect firm managers to respond to a dividend tax cut for individuals.
These hypotheses make two predictions about market responses to the Proposal and JAGTRRA: dividend valuation that assumes that corporate dividend policy is static, and dividend valuation that allows dynamic corporate dividend policy.
It follows that investor expectations about corporate responses to a dividend tax cut would be reflected by market prices when the Proposal and the passage of JAGTRRA were announced.