"Priced" into a stock

[SlowHabit]

Company A's current stock price is $10. Upon releasing the news that the company will sell part of its asset and pay shareholders a special dividend of $2, Company A's stock price jumped to $12.

Since everyone knows this and it is already "priced" into the stock, can one make money in this situation?

I think the key to answering this question is knowing [based on historical events] whether or not a company's stock price drops at the equivalent of its dividends after paying to shareholders. I may be wrong but do enlighten me.

[pig4bill]

Yes, it almost always drops by the amount of the dividend.

[ahnuld]

it should drop by the amount of the divident-taxes

[Noodles.]

Wouldn't it be a strategy then to just short a stock just before dividend is paid, and then close the position just after?

Edit: Oh wait, would you have to pay that dividend then?

[ahnuld]

[ QUOTE ]
Wouldn't it be a strategy then to just short a stock just before dividend is paid, and then close the position just after?

Edit: Oh wait, would you have to pay that dividend then?

[/ QUOTE ]

yeah of course you do.

[Phone Booth]

[ QUOTE ]
it should drop by the amount of the divident-taxes

[/ QUOTE ]

No, taxes are relevant, but the stock should still approximately drop by the dividend amount (interest rates and credit risk are still factors). In fact, one can make a case that it should drop by more because one could still reduce tax liabilities by buying a stock right before it goes ex-dividend, sell afterwards, use the short-term loss to offset other short-term gains and pay a lower rate on the dividend.

[spino1i]

The stock price should not change at all after the announcement of the special dividend. While the shareholders are getting paid the 2$ per share dividend, the company's intrinsic value drops by 2$ a share since in order to pay this dividend out, since they now have less assets/less cash/more debt and are consequently worth less overall.

Once the dividend is paid, the stock price would drop by 2$ a share immediately after.

[DesertCat]

[ QUOTE ]
[ QUOTE ]
it should drop by the amount of the divident-taxes

[/ QUOTE ]

No, taxes are relevant, but the stock should still approximately drop by the dividend amount (interest rates and credit risk are still factors). In fact, one can make a case that it should drop by more because one could still reduce tax liabilities by buying a stock right before it goes ex-dividend, sell afterwards, use the short-term loss to offset other short-term gains and pay a lower rate on the dividend.

[/ QUOTE ]

I did a (simplistic) study once and there was clearly a tax effect, you could see it in the larger one time dividends. Theoretically you could buy the stocks in a tax deferred account (IRA) the day before the x-div date, and sell on the x-div date and make an excess return.

Problems include, it doesn't always happen with every stock, it's more a statistical effect because sometimes news comes out and the stock goes up or down because of that, so you want to play lots of these to cancel out market fluctuations. Also, some stocks have larger percentages of stock already owned in tax deferred vehicles (pension funds, etc), so the effect is going to be less. Second it's rare that there are dividends large enough to make the effect large enough to capitalize on it, if the dividend isn't pretty big commissions can eat up much of the excess return. And big dividends are rare enough they make it hard to puruse the strategy, because you have money sitting around in an IRA earning only 5% while you wait for another dividend a week away.

Also the dividend tax rate is now so low it reduces the excess return. Most people pay between 15-25% on dividends depending upon state of residence. If dividends were taxed at individual rates like they used to (25-45% depending upon state), the effect would be much greater and easier to trade.

[Phone Booth]

[ QUOTE ]
[ QUOTE ]
[ QUOTE ]
it should drop by the amount of the divident-taxes

[/ QUOTE ]

No, taxes are relevant, but the stock should still approximately drop by the dividend amount (interest rates and credit risk are still factors). In fact, one can make a case that it should drop by more because one could still reduce tax liabilities by buying a stock right before it goes ex-dividend, sell afterwards, use the short-term loss to offset other short-term gains and pay a lower rate on the dividend.

[/ QUOTE ]

I did a (simplistic) study once and there was clearly a tax effect, you could see it in the larger one time dividends. Theoretically you could buy the stocks in a tax deferred account (IRA) the day before the x-div date, and sell on the x-div date and make an excess return.

Problems include, it doesn't always happen with every stock, it's more a statistical effect because sometimes news comes out and the stock goes up or down because of that, so you want to play lots of these to cancel out market fluctuations. Also, some stocks have larger percentages of stock already owned in tax deferred vehicles (pension funds, etc), so the effect is going to be less. Second it's rare that there are dividends large enough to make the effect large enough to capitalize on it, if the dividend isn't pretty big commissions can eat up much of the excess return. And big dividends are rare enough they make it hard to puruse the strategy, because you have money sitting around in an IRA earning only 5% while you wait for another dividend a week away.

Also the dividend tax rate is now so low it reduces the excess return. Most people pay between 15-25% on dividends depending upon state of residence. If dividends were taxed at individual rates like they used to (25-45% depending upon state), the effect would be much greater and easier to trade.

[/ QUOTE ]

I think your second paragraph is the key though - back when dividends were treated like normal unearned income, the tax effect was there to compensate for the fact that it's preferable to sell and lock in a lower rate for long-term capital gains before the stock goes ex-dividend. Now that dividends are also taxed preferentially, there's no reason for that effect to exist any more.