An empirical analysis of a selling policy to increase dividend income in the investment management of an income trust

Trustees of income trusts have generally been given over the period 1959-1971 power to invest t r u s t funds i n common stocks. Their objectives are to invest t r u s t funds to produce an income for a l i f e tenant while preserving the c a p i t a l of the t r u s t for the ultimate remainderman. A cl e a r d i v i s i o n between c a p i t a l and income i s required by l e g a l rules and reference i s made to selected l e g a l decisions to i l l u s t r a t e the attitude of the courts. A trustee of an income t r u s t cannot accept the attitude o;f indifference between dividend income and c a p i t a l gains adopted by some ind i v i d u a l investors and many academic researchers. I t i s submitted that i t i s d i f f i c u l t to construct appropriate investment p o l i c i e s for an income t r u s t through reading recent l i t e r a t u r e on common stock investment strategies; trustees cannot accept the normal assumption that dividend income and c a p i t a l gains are equival e n t . The general proposition that r i s k and return are p o s i t i v e l y related, which Soldofsky and M i l l e r (1969) seek to support could induce a trustee to purchase r i s k y s e c u r i t i e s . However analysis of t h e i r own data reveals a negative r e l a t i o n ship between r i s k and return among American common stocks, roughly over the years 1955-1962. The report by Litzenberger, Joy and Jones (1971) on a p o l i c y of investing i n low P/E r a t i o American common stocks i s analysed to reveal some d i f f i c u l t i e s i n evaluating t h e i r r e s u l t s . In a t r u s t p o r t f o l i o a stock can come to produce a low dividend y i e l d through stock price appreciation. I t could be retained under a Buy and Hold Policy, or sold and the proceeds reinvested i n another stock with a larger current dividend y i e l d under an Administrative P o l i c y . An empirical evaluation of these a l t e r n a t i v e p o l i c i e s was undertaken using stock market data on 108 Canadian firms over the periods A p r i l 1960 to September 1964 and January 1965 to June 1969. Any Administrative P o l i c y requires two decision rules, one to i n i t i a t e sales and one to d i r e c t purchases. To is o l a t e the impact of the decision to s e l l , which was based upon a decline i n current dividend y i e l d , a reinvestment p o l i c y was adopted employing random se l e c t i o n from those s e c u r i t i e s then within a desired current dividend y i e l d range. For the f i r s t period, Fortran programs were used to produce discounted dividend and c a p i t a l gains s t a t i s t i c s . These were expressed as an average annual discounted y i e l d based upon the c a p i t a l o r i g i n a l l y invested, for the Buy and Hold Policy and for 9 d i f f e r i n g operational d e f i n i t i o n s of an Administrative Policy, these l a t t e r s t a t i s t i c s being grand means based upon twenty t r i a l s . From these r e s u l t s 3 hypotheses were developed for tes t i n g i n a subsequent nonoverlapping period. The only hypothesis that survived t h i s t e s t was that an Administrative Policy w i l l increase the dividend y i e l d s t a t i s t i c over that produced by a Buy and Hold P o l i c y . The impact of an Administrative P o l i c y upon the c a p i t a l gains s t a t i s t i c did vary, being negative i n the f i r s t period and p o s i t i v e i n the second.