Crossovers, Dividends, and the Size Effect

The size effect may have been the result of high stock volatility and low dividend payments. Suppose an equity market is partitioned into a large-stock index and a small-stock index, and suppose that, over a given period of time, each of the indexes retains its share of the total market capitalization. Price volatility will cause some stocks to cross over from one index to the other, which will result in higher returns for the small-stock index and lower returns for the large-stock index. Dividend payments by large companies could offset the effect of the crossovers, but they have historically been insufficient to do so. Hence, the size effect.