05 stocks - lecture problems solutions

# 05 stocks - lecture problems solutions - Lecture problems...

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Lecture problems – stocks If Nevada Tools stock is priced at \$15.00 per share, expected to pay a quarterly dividend of \$1.50 per share, and expected to be priced at \$14.10 per share in exactly 3 months (just after the dividend is paid), then what is the expected dividend yield over the next quarter? Expected dividend yield = expected cash flow from investment / expected initial value = expected dividends / expected initial value Expected dividends over the next quarter = \$1.50 Expected initial value = stock price today = \$15.00 Expected dividend yield over the next quarter = expected dividends / expected initial value = \$1.50 / \$15.00 = .100 = 10.0% 1

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Lecture problems – stocks If Nevada Tools stock is priced at \$15.00 per share, expected to pay a quarterly dividend of \$1.50 per share, and expected to be priced at \$14.10 per share in exactly 3 months (just after the dividend is paid), then what is the expected capital appreciation yield over the next quarter? Expected capital appreciation yield = expected capital gain / expected initial value = (expected ending value – expected initial value) / expected initial value Expected ending value = expected stock price in 1 quarter = \$14.10 Expected initial value = stock price today = \$15.00 Expected capital appreciation yield over the next quarter = expected capital gain / expected initial value = (\$14.10 – \$15.00) / \$15.00 = -\$0.90 / \$15.00 = -.060 = -6.0% 2
Lecture problems – stocks If Nevada Tools stock is priced at \$15.00 per share, expected to pay a quarterly dividend of \$1.50 per share, and expected to be priced at \$14.10 per share in exactly 3 months (just after the dividend is paid), then what is the expected return over the next quarter? Expected return over the next quarter = expected dividend yield over the next quarter + expected capital appreciation yield over the next quarter = .100 + (-.060) = .040 = 4.0% Alternatively: Expected return over the next quarter = (expected cash flow from investment + expected ending value – expected initial value) / expected initial value = (\$1.50 + \$14.10 – \$15.00) / \$15.00 = [\$1.50 + (-\$0.90)] / \$15.00 = \$0.60 / \$15.00 = .040 = 4.0% 3

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Lecture problems – stocks What is the price of Fun Friends Inc. stock if it has an expected return of 14.5 percent, is expected to pay a dividend of \$1.20 in 1 year, no dividend in 2 years, and a dividend of \$2.50 in 3 years, and is expected to be priced at \$22.22 in 3 years? Time 0 1 2 3 Time 0 1 year 2 years 3 years Variable P 0 D 1 D 2 D 3 and P 3 Expected Amount P 0 = ? D 1 = 1.20 D 2 = 0 D 3 = 2.50; P 3 = 22.22 Expected annual return = .145 P 0 = [(D 1 + P 1 ) / (1 + R)] = [D 1 / (1 + R)] + [(D 2 + P 2 ) / (1 + R) 2 ] = [D 1 / (1 + R)] + [D 2 / (1 + R) 2 ] + … + [(D N + P N ) / (1 + R) N ] In this case, P 0 = [D 1 / (1 + R)] + [D 2 / (1 + R) 2 ] + [(D 3 + P 3 ) / (1 + R) 3 ] Where D 1 = 1.20 D 2 = 0 D 3 = 2.50 P 3 = 22.22 R is the annual return expected on the stock divided by the number of possible dividends per year = .145 ÷ 1 = .145
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05 stocks - lecture problems solutions - Lecture problems...

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