We propose a model in which investors are loss averse relative to a reference point set with prior dividends. Managers with strong earnings separate themselves by increasing dividends and yet still retaining enough slack to clear a higher reference point in the next period, with high probability. The model matches important features of the data, including an equilibrium Lintner dividend policy of partial adjustment; a modal dividend change of zero; a stronger market reaction to dividend cuts than increases; and a signaling mechanism that does not involve the destruction of value through suboptimal investment or taxes, a notion that managers reject in surveys. We also find empirical support for some of the model’s novel predictions.