Why Do Stock Prices Drop by Less than the Amount of the Dividend? Evidence from a Unique Environment

Abstract

We investigate the effect of a lack of an automated limit order adjustment mechanism on ex-dividend day stock price behavior in a unique environment in which there are no taxes on dividends and capital gains. The absence of taxes in Oman allows us to test the effect of the lack of a limit order adjustment mechanism in the absence of confounding tax effects that are present in other markets. We find that overnight drop in the ask price is smaller than the overnight drop in the bid price. In addition, we find that average price drops are smaller than the dividend amount for all dividend sizes. We also find no evidence of a sawtooth-shaped relationship between the dividend amount and the ex-dividend day price drop. These results are generally consistent with a lack of an automated limit order adjustment mechanism.