How Did the Extension of the U.S. Dividend Tax Cuts in 2010 Affect Stock Prices?

The efficacy of the 2001 and 2003 Bush tax cuts was a major topic of discussion in the 2010 midterm elections. I investigate the effect of the possible expiration and eventual extension of the dividend tax cut on US stock market performance in 2010 based on the methodology used by Amronin, Harrison and Sharpe (2008). I compare aggregate performance of US common stocks relative to foreign stocks using equity indices, and examine cross-sectional performance amongst US stocks by creating different stock portfolios based on their dividend yield. This comparison is done over two event windows, (1) 20-24 September 2010 and (2) 3-8 December 2010. Consistent with previous studies, I find that the US stock market did respond to negative and positive news on the extension of the Bush-era dividend tax cuts, with stock prices falling and rising, respectively. My findings also suggest that this aggregate effect was probably muted by the redistribution of funds by investors from lower-yield to higher-yield stocks. Unlike in 2003, however, in the post-financial crisis context of 2010, the redistribution seemed to particularly favor stocks with medium-dividend yield, rather than smaller, higher-risk stocks with the highest dividend yield.