Case Western Reserve University Weatherhead School of Management FNCE 435 - Empirical Finance Fall 2021 Assignment 10 Part I - Concepts 1) We examine a trading strategy based on companies' past dividend activity. The trading strategy involves buying stocks with high dividend payments in the previous year and selling stocks with low dividend payments in the previous year. More specifically, at the end of each year, we collect data on all stocks paying dividends in the previous year. For each such stock, we measure its dividend yield (dividend/share price) in the previous year. We then sort the stocks based on the dividend yield in order to capture the top 50 dividend payers and bottom 50 dividend payers. We then track the performance of the high-dividend portfolio (the one formed by the 50 top dividend payers) and low-dividend portfolio (the one formed by the 50 bottom dividend payers) for the next 12 months. We repeat the strategy for each year between 1965 and 2004 (40 years of data). The following graph shows the average cumulative abnormal return (CAR) for the high- dividend portfolio and low-dividend portfolio. We observe that the average CAR over the 12-month period equals 8.86% for the high-dividend portfolio, while the corresponding average CAR for the low-dividend portfolio equals 3.74%. 10 9 7 6 5 4 3 Average CAR for high-dividend stocks Average CAR for low-dividend stocks 10 12 Figure 1. Average CAR, trading strategy based on high- and low-dividend paying stocks Comment on whether the data suggest a strategy to earn returns (in terms of what the backtesting revealed). If so, what would be that strategy? If you need more data to anchor your analysis, please describe which data would you need.