Question

For the constant growth rate dividend model to work, which of the following assumptions must hold?

The growth rate must be less than the required rate of return.

The growth rate must be greater than the required rate of return.

The growth rate should always be equal to zero.

The growth rate must be equal to the required rate of return.

Answer 1

option '1' is correct

For a constant growth rate dividend model to work, the growth rate must be less than the required rate of return.

Price = D1 / (Ke - g)

if g is greater than the cost of equity, the price will become negative which is not possible. So, the growth rate should be always lesser than the required rate of return.