Question

A share of BAC common stock has just paid a dividend of $1.00. The market return is 12% and the beta is 1.5. The three month T-bill rate is 4%. The expected long-run growth rate for this stock is 8 percent. (Keep your answer to only two decimals) a. What is the required return for the stock ? (hint: CAPM) (Example of the answer format: 55.55% ) b. What is the stock price? (Example of the answer format: $55.55))

Answer 1

Answer:

a. 16.00%

b. $13.50

Explanation:

a. The computation of the required return is shown below:

Expected rate of return = Risk-free rate of return + Beta × (Market rate of return - Risk-free rate of return)

= 4% + 1.5 × (12% - 4%)

= 4% + 1.5 × 8%

= 4% + 12

= 16.00%

b. Now the stock price is

= Current year dividend ÷ (Required rate of return - growth rate)

= ($1 × 1.08) ÷ (16% - 8%)

= 1.08 ÷ 8%

= $13.50

We simply applied the above formulas