A stock is trading at S 44 00 per tare The stock is expected

A stock is trading at S 44 .00 per tare The stock is expected to hare a year end dindend of S 290 per share ), which ii expected to grow at ime The stock s required rate of return is 12 percent If you are an analyst who believes in efficient markets what is your forecast ofg? Answer in a percentage without the % ugn, and round it to two decimal places, i e, 10.54 for 10 54% (or O 104.

Solution

(10)

Current market price (P₀) = $44

D₁ = $2.9

Required rate of return (K_e) = 12%

Growth rate in dividends (g) = ?

P₀ = D₁/ (K_e - g)

44 = 2.9/(0.12 - g)

0.12 - g = 2.9/44

0.12 - g = 0.0659

g = 0.0659 + 0.12

= 0.1859

g = 18.59

(8)

P₀ = $25.03

D₀ = $1.50

g = 5%

P₃ = ?

D₁ = D₀ ( 1 + g)

= 1.50 ( 1 + 0.05)

= 1.50 x 1.05

= $1.575

P₀ = D₁/ (K_e - g)

25.03 = 1.575/(Ke - 0.05)

K_e - 0.05 = 1.575/25.03

Ke - 0.05 = 0.0629

Ke = 0.0629 + 0.05

= 11.29%

D₂ = D₁ ( 1 + g)

= 1.575 ( 1 + 0.05)

= 1.575 x 1.05

= $1.65375

D₃= D₂ ( 1 + g)

= 1.65375 ( 1 + 0.05)

= 1.65375 x 1.05

= $1.7364

D₄= D₃ ( 1 + g)

= 1.7364 ( 1 + 0.05)

= 1.7364 x 1.05

= $1.8233

P₃ = D₄/ (K_e - g)

= 1.8233/(0.1129 - 0.05)

= 1.8233/0.0629

= $29

Hence, stock price 3 years from now = $29 (approx)