Institutional investment horizon and dividend policy: An empirical study of UK firms

This paper investigates the effect of the institutional investment horizon on dividend policy. Using a panel dataset of non-financial UK firms over the period 2000-2010, we measure institutional investors' investment horizons by the churn rate of their overall stock positions in a firm. We find that there is a significantly negative relationship between the churn rate and dividend payments, and this negative relation is robust to the usage of different dividend policy proxies, substitute methodologies and alternative churn rate measures. Thus, our findings suggest that institutions with shorter term investment horizons (with higher churn rates) have a negative impact on dividends, whereas longer term institutional investors (with lower churn rates) have a positive one. Overall, our evidence is consistent with the notion that long-horizon institutions are more concerned with monitoring, compared to short-horizon institutions, and prefer higher dividends to increase dividend-induced capital market monitoring in order to lower the agency costs of managerial discretion. In addition, this positive influence may also reflect the preferences of tax-neutral long-horizon institutions for dividend income due to their liquidity needs, as well as the common institutional charter and prudent-man rule restrictions.