Study: Tax Cuts Could Pay Dividends To Investor Portfolios

July 1, 2003 (PLANSPONSOR.com) - The recently approved dividend and capital gains tax cuts could have an immediate impact on domestic equity performance, especially in large-cap value stocks.

Large-cap value stocks could see an immediate 9.3%-increase in their worth with the recent passage of President Bush’s tax cuts.    Overall, the broader equity market could increase in value by up to 6.5%, according to research conducted by Robert Arnold, a senior portfolio manager at Delaware Investments.

In addition, the large-cap value and broad market gains, Arnold’s research also points to positive expected returns in:

  • small-cap value stocks – 5.5%
  • large-cap growth stocks – 4.3%
  • small-cap growth stocks – 2.3%.

Further, the cuts may create a significant change in the   behavior of United States corporations and the investors who own or may considerbuyingtheir stocks.  For example, he said, “since the after-tax return ondividendsto shareholders is higher under the new law, their demand for dividendsshouldrise.” 

Overall, Arnold pointed to specific corporate behaviors he forecasts the new law will affect:

  • companies with   shareholder-friendly policies of distributing excess free cashflowto owners are likely to favor paying dividends rather than buyingback stock.
  • there is likely to be a more disciplined enforcement of return on   investment thresholds for capital expenditures and acquisitions.

To calculate the effect of the proposed dividend cut on the various   categories of stocks, Arnold started with the amount – roughly $23billion a year – that the Joint Committee on Taxation (JCT) estimates the planwould cost in taxes.  He then calculated the net present value of thisbenefitand   apportioned it among the various equity market segments based upon thedividends paid to shareholders.   This calculation also included t he impact of the capital gains tax reduction,approximately $4 billion per year, and equally apportioned this impactacrossmarket segments.

«