Question

A share of stock sells for $50 today. It will pay a dividend of $6 per share at the end of the year. Its beta is 1.2. What do investors expect the stock to sell for at the end of the year?

Answer 1

Answer:

$53

Explanation:

The computation of the stock sale at the end of the year is computed after calculating the required rate of return and the growth rate

The required rate of return by applying the Capital Asset Pricing model formula is

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

= 6% + 1.2 × (16% - 6%)

= 6% + 12%

= 18%

Now the growth rate is

Stock price = Dividend per share÷ (Required rate of return - growth rate)

$50 = $6 ÷ (18% - growth rate)

So, the growth rate is 6%

Now the ending stock price is

Next year dividend ÷ (Required rate of return - growth rate)

where,  

Next year dividend is  

= $6 + $6 × 6%

= $6 + 0.36

= $6.36

So,

= ($6.36) ÷ (18% - 6%)

= $53