Sensitivity of Investor Reaction to Market Direction and Volatility: The Case of Dividend Change Announcements

This study examines whether investor reactions are sensitive to the recent direction and/orvolatility of underlying market movements. We find dividend change announcements elicit agreater change in stock price when the nature of the news (good or bad) goes against the grain ofthe recent market direction during volatile times. For example, announcements to lowerdividends elicit a significantly greater decrease in stock price when market returns have been upand more volatile. Similarly, announcements to raise dividends tend to elicit a greater increasein stock price when market returns have been normal or down and more volatile, although thislatter tendency lacks statistical significance. We suggest an explanation for these results thatcombines the implications of a dynamic rational expectations equilibrium model with behavioralconsiderations that link the responsiveness of investors to market direction and volatility.