The increase in the stock price after a dividend increase is called the information content effect because:

Question

Quizplus · Accepted Answer

The "information content effect" refers to the idea that a dividend increase signals to investors that the company is performing well and expects to continue to do so in the future. This signal causes investors to adjust their expectations of the company's future earnings upward, which in turn drives up the stock price. Option A is incorrect because if the change in dividend had been expected by shareholders, there would be no surprise or information conveyed which could lead to a subsequent stock price increase. Option C is also incorrect because a dividend increase would not necessarily signal investors to reduce the risk of the firm- there is no direct relationship between dividend policy and risk. Option D is incorrect because a dividend increase alone does not signal that the firm is entering a mature phase of its business.

The Increase in the Stock Price After a Dividend Increase