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Assume that investors expect a return of rE= 10%for holding stocks. Consider two stocks.The first pays currently a dividend ofD1= 10,which is expected to grow at5%,the second payscurrentlyD2= 100,which is expected to grow at6%.According to the Gordon model which of the two stocks is expected to generate a higher rate of return?

Respuesta :

The second stock will be the best one to hold by the investor

Explanation:

Value of stock = D1 / r – g.

D1 = the annual expected dividend of the next year.

r = rate of return.

g = the expected dividend growth rate (assumed to be constant)

Stock D1

Dividend of D1 = 10,  Expect a return of rE= 10%  growth rate =5%

Value of stock (1)  =10÷(0.1-.05)=200

[tex]Value of stock (1) =10÷(0.1-.05)=200[/tex]

Stock D2

Dividend of D2 = 100,  Expect a return of rE= 10%  growth rate =6%

Value of stock (2)  =100÷(0.1-.06)=2500

[tex]Value of stock (2) =100÷(0.1-.06)=2500[/tex]

So the stock D2 which pays 100 as dividend and having a growth rate of 6% is best    

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