Question

The common stock of Eddie's Engines, Inc. sells for $25.71 a share. The stock is expected to pay $1.80 per share next month when the annual dividend is distributed. Eddie's has established a pattern of increasing its dividends by 4% annually and expects to continue doing so. What is the market rate of return on this stock?

Answer 1

Answer:

7.28%

Explanation:

Using the dividend discount model

$P = \frac{D (1+g)}{r}$

where P = price

g = growth rate

r = market rate of return

Therefore, $P = \frac{D (1+g)}{r}$ becomes,

$25.71 = \frac{1.80 (1+0.04)}{r}$

= r = (1.80 * 1.04)/25.71

= r = market rate of return = 7.28%