On the Dividend Capitalization Model Under Uncertainty

Consider an economy consisting of individuals and firms with the following characteristics: all individuals are rational in the von Neumann- Morgenstern sense and non-neutral toward risk; the dividend streams of some firms are certain, while the dividend streams of the other firms are uncertain; and the economy is equipped with perfect financial markets. In this economy, as we show in the present paper, the value of each firm with a certain dividend stream depends only on the dividend stream itself and the set of future interest rates—i.e., the market value of such firms is independent of the attitudes toward risk and the level of wealth of any individual. However, the value of each firm with an uncertain dividend is, with one exception, not independent of anything: it depends not only on the firm's own dividend stream, the set of future interest rates, and (all) individuals' risk attitudes, but also on the wealth levels of these individuals and on the dividend streams of all other firms with uncertain dividends even when these streams are stochastically independent. The exception occurs when the individuals have exponential utility functions of money. In this case, the market value of each firm with uncertain dividends is independent of other dividend streams and of individual wealth levels if these variables are statistically independent of the firm's dividends. Exponential utility functions of money, of course, are not considered empirically plausible.