Is it normal for stock prices to drop on ex-dividend trading days? Analyzing the three major misconceptions about dividend stock investing

For many investors considering entering the high-dividend stock market, the stock price drop on ex-dividend days often becomes the biggest confusion point. But in reality, behind this seemingly “inevitable” phenomenon lies a much more complex market logic than most imagine. When is the best time to buy dividend stocks? What determines the stock price fluctuations before and after the ex-dividend date? Let’s break down these questions together.

Why Does the Stock Price Drop Not Always Happen on Ex-Dividend Days?

First, it’s important to clarify a common misconception: stock prices don’t always fall on the ex-dividend date.

Theoretically, ex-dividend should exert downward pressure on the stock price. When a company pays cash dividends to shareholders, its assets decrease accordingly, so the stock price should adjust downward. For example, if a company distributes a $4 per share special dividend, the stock’s theoretical value on the ex-dividend date would decrease by $4. However, in actual markets, many well-known listed companies see their stock prices rise on the ex-dividend day—something investors often overlook.

Take Apple Inc. as an example. The company pays quarterly dividends, and in recent years, its performance on ex-dividend days often exceeds expectations. On November 10, 2023, Apple’s stock price rose from $182 the previous trading day to $186 on the ex-dividend day. Notably, in the first half of 2023, the increase on ex-dividend days even reached 6.18%. Similar upward movements frequently occur with industry leaders like Coca-Cola, Walmart, Pepsi, and Johnson & Johnson.

What does this indicate? The magnitude and direction of stock price drops on ex-dividend days are not solely determined by the dividend amount. Instead, they are influenced by multiple factors such as market sentiment, company performance expectations, and macroeconomic conditions. Sometimes these factors amplify downward pressure; other times, they can completely offset or even reverse it.

The Mathematical Logic of Rights Issues and Ex-Dividend Price Movements

To truly understand the essence of why stock prices sometimes fall on ex-dividend days, it’s essential to distinguish between dividends and rights issues, as they impact stock prices through different mechanisms.

Dividends: When a company decides to pay a $4 cash dividend per share, the theoretical stock value decreases accordingly. Suppose a stock’s pre-dividend price is $35 (comprising a $30 fundamental value plus $5 in cash reserves), then after the dividend, the theoretical value should adjust to $31.

But here’s a key point: Theoretical value and actual transaction price are not the same. The market’s actual trading price depends on investor confidence in the company’s future, expectations of dividend sustainability, current trading sentiment, and other factors. Whether the actual price drops to $31 or is pushed higher depends on market acceptance.

Rights issues: The calculation is more complex. After a rights issue, the stock price generally follows this formula:

Post-rights stock price = (Pre-rights stock price - Rights issue price) / (1 + Rights issue ratio)

For example, if a stock was trading at 10 yuan before the rights issue, with a subscription price of 5 yuan, and a rights ratio of 1 new share for every 2 held, then the post-rights stock price would be approximately (10 - 5) / (2 + 1) ≈ 1.67 yuan. This reflects the dilution effect on the average cost basis for investors.

Investment Decision Framework for Buying on Ex-Dividend Days

Now, let’s move to the most practical part: When is the best time to buy stocks on ex-dividend days?

There’s no absolute answer—only choices that depend on three dimensions:

First Dimension: Pre-Ex-Dividend Price Trend

Has the stock already risen significantly before the ex-dividend announcement? If the stock has climbed to a relatively high level beforehand, many investors may choose to take profits early or sell to avoid dividend tax. This can lead to selling pressure on the ex-dividend day, making it less ideal to buy at that moment. Conversely, if the stock price has already adjusted before the dividend, the potential downside on the ex-dividend day may be limited.

Second Dimension: Post-Ex-Dividend Price Movement Pattern

This involves two key concepts: “Fill-Right” (填權息) and “Stick-Right” (貼權息).

Fill-Right refers to the phenomenon where, after the ex-dividend date, the stock price temporarily drops but then gradually recovers as investors remain optimistic about the company’s prospects, eventually returning to pre-dividend levels. This indicates market confidence in future growth.

Stick-Right, on the other hand, describes situations where the stock price fails to rebound after the ex-dividend date and continues to decline, reflecting investor concerns about the company’s performance or market outlook.

For short-term traders, reviewing a company’s historical fill-right performance is crucial. If a company frequently exhibits fill-right behavior, it suggests sustained market confidence. Conversely, persistent stick-right patterns imply higher short-term risks.

Third Dimension: Company Fundamentals and Holding Period

This is often overlooked but critically important. For fundamentally solid companies that are industry leaders, the ex-dividend adjustment is mainly a technical correction, not a reflection of intrinsic value loss. In fact, the price decline on the ex-dividend day can provide a good entry point for long-term investors.

This explains why Warren Buffett favors high-dividend stocks—over 50% of his assets are allocated to such stocks. For long-term investors, buying quality companies after the ex-dividend date often offers a more cost-effective entry than rushing in before the dividend payout.

Hidden Costs Behind the Stock Price Drop on Ex-Dividend Days

Before making decisions, it’s important to consider some “invisible” but real costs.

Tax considerations: If you buy ex-dividend stocks in a regular taxable account, the tax burden can be significant. Investors face unrealized capital losses (the stock price drops on the ex-dividend day) and must pay taxes on received dividends. Using tax-advantaged accounts like IRAs or 401(k)s can avoid this issue, as gains are deferred until withdrawal.

Transaction costs: Besides dividend taxes, transaction fees and trading taxes also matter. For example, in Taiwan’s stock market, the transaction fee is calculated as stock price × 0.1425% × discount rate (usually 50-60%). Trading tax is 0.3% for regular stocks and 0.1% for ETFs. These costs, though seemingly small, accumulate over multiple trades and can significantly impact net returns, especially for short-term traders.

To assess whether buying after the price drop is worthwhile, these costs must be factored into the expected gains. If dividend income is eroded by taxes and fees, the investment’s value diminishes accordingly.

Advanced Trading Strategies for Short-Term Fluctuations

For investors aiming to capitalize on short-term movements during the ex-dividend period while avoiding dividend taxes, Contract for Difference (CFD) trading offers an alternative.

CFDs allow leverage, enabling control of large positions with a small margin. If the stock moves as expected, returns can far exceed direct stock ownership. Importantly, since you don’t own the underlying shares, you don’t pay dividend taxes, and the capital barrier is lower.

During the short-term volatility around ex-dividend days, CFDs support both long and short positions, providing greater flexibility. For example, if you anticipate a high-dividend stock’s price will drop and then fill the gap, you can go long; if you expect continued weakness, you can short or stay on the sidelines.

However, leverage amplifies both gains and risks. It’s crucial to use leverage responsibly according to your risk tolerance and avoid over-leveraging.

How Should Investors Make Decisions?

Combining all the above, the most rational conclusion about the stock price drop on ex-dividend days is: There’s no absolute entry point—only choices aligned with your strategy.

Short-term traders should focus on: price trends, dividend size, market sentiment, fill-right history, and transaction costs. Each variable can influence your decision.

Long-term investors should prioritize: company fundamentals, dividend sustainability, valuation levels. From this perspective, the price decline on ex-dividend days often isn’t a risk but an opportunity—providing a lower-cost entry to accumulate quality assets.

In any case, decisions should be made based on thorough knowledge and risk assessment, not blindly following market emotions.