You are evaluating the price of a firm's stock. Yesterday, the firm paid $1 a share dividend. You expect the firms earnings and its dividend to grow 5% annual rate. The risk free rate of interest is 2%. The required rate of return for this firm's stock is 9%.
What do you expect the dividend to equal in three years?
What would be the most you would pay for this stock if you planned to hold it for 3 years? What about holding it for ten years?© BrainMass Inc. brainmass.com June 3, 2020, 5:33 pm ad1c9bdddf
See attached Excel.
Do = 1,
g = 5%
Rf = 2%
Rr = 9%
dividend in three years will grow to:
D3 = Do * (1+g)^3 = 1 * (1+5%)^3 = $1.16
If the stock is held for 3 years, we should use the DDM model.
The dividend at the end of 4 years is
D4 = ...
The solution shows all the calculations needed to understand and arrive at the correct responses for dividend and price of a firm's stock.