Question

A stock is expected to pay $5.50 per year in dividends for each of the next four years and be trading at a price of $115 at the end of four years. What rate of return would the investor realize over the next four years if his expectations (regarding future dividends and price) were realized had he paid a price of $106.36 a share for the stock?

	a.	8 percent
	b.	7 percent
	c.	12 percent
	d.	6 percent

Answer 1

Let rate of return be x%

At this rate;present value of dividends and future value=106.36

106.36=5.5/1.0x+5.5/1.0x^2+5.5/1.0x^3+5.5/1.0x^4+115/1.0x^4

Hence x=rate of return=7%(Approx).