Ch18 - Equity Valuation Models Ch18 Models of Equity...

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Equity Valuation Models Ch18
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Basic Types of Models Balance Sheet Models Net Asset Value of the B/S Dividend Discount Models Price/Earning Ratio Models of Equity Valuation
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Intrinsic Value Variety of models are used for estimation Market Price Consensus value of all potential traders in the security market Trading Signal IV > MP Buy IV < MP Sell or Short Sell IV = MP Hold or Fairly Priced Intrinsic Value and Market Price
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V D k o t t t = + = ( ) 1 1 V 0 = Value of Stock D t = Dividend k = required return Dividend Discount Models: General Model
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V D k o = Stocks that have earnings and dividends that are expected to remain constant. Preferred Stock No Growth Model Example: E 1 = D 1 = $5.00 k = .15 V 0 = $5.00 / .15 = $33.33
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Vo D g k g o = + - ( ) 1 E 1 = $5.00 b = 40% k = 15% (1-b) = 60% D 1 = $3.00 g = 8% V 0 = 3.00 / (.15 - .08) = $42.86 Constant Growth Model: Example
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g ROE b = × g = growth rate in dividends ROE = Return on Equity for the firm b = plowback or retention percentage rate (1- dividend payout percentage rate) Estimating Dividend Growth Rates
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P/E Ratio is a function of two factors Required Rates of Return (k) Expected growth in Dividends
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