Can someone please answer these questions with explanation? You would like to pu
ID: 2806014 • Letter: C
Question
Can someone please answer these questions with explanation?
You would like to purchase a share of stock today. The manager calls you up and promises you that he will give you a dividend of 5 dollars next year, 6 dollars at second year, and 8 dollars at the third year. Then you will be sure to sell out this stock at 85 dollars right after your third-year dividend payment (this is unrealistic and will never happen in real life but it is true in our class, we assume a lot), with a discount rate of 15%, how much would you pay for this stock today? (ttr) (lt) You call up the manager in the first question. You don't want to sell your stock at the third year. The manager says that he could offer you a constant growthate at 5%, starting from third year and last until the end of the world. You like this safety-blanket idea. Then, how much would you pay for this stock today? O. }5-0.OT Comment on the price difference of Q1 and Q2. hill, dío.de" ds grow ence 1 Suppose you buy a share of stock at 50 dollars per share. Over the next year, you receive a dividend payment of 4 dollars, and you sell the share after receiving the dividend at 65 dollars per share. What is your rate of return? What is your capital gain and dividend yield?Explanation / Answer
1. Applying dividend discount model,
Stock Price = 5/(1+0.15) + 6/(1+0.15)^2 + 8/(1+0.15)^3 + 85/(1+0.15)^3 .. (since stock can be sold at 85 right after the end of 3rd year)
Stock Price = 5/1.15 + 6/(1.15)^2 + 8/(1.15)^3 + 85/(1.15)^3
Stock Price = 4.3478 + 4.5368+61.1490 = 70.03
2. Terminal Value = D4/(k-g) = D3*(1+g)/(k-g) = 8*(1+0.05)/(0.15-0.05) = 84
Stock Price = 5/1.15 + 6/(1.15)^2 + 8/(1.15)^3 + 84/(1.15)^3 = 4.3478 + 4.5368+60.4914 = 69.37
3. Price difference = 70.03-69.37 = 0.6539
4. Rate of Return = (P1 + D- P0)/P0= (65+4-50)/50 = 19/50 *100 = 38%
Capital gain = (P1-P0)/P0 = (65-50)/50 = 15/50 *100 = 30%
Dividend Yield = Dividend/ Current Price = 4/65 *100 = 6.15%