Question

Demarius owns investment A and 1 share of stock B. The total value of his holdings is 2,196.22 dollars. Investment A is expected to pay annual cash flows to Demarius of 250 dollars per year with the first annual cash flow expected later today and the last annual cash flow expected in 6 years from today. Investment A has an expected annual return of 11.01 percent. Stock B is expected to pay annual dividends of 43.2 dollars forever with the next dividend expected in 1 year. What is the expected annual return for stock B? Answer as a rate in decimal format so that 12.34% would be entered as .1234 and 0.98% would be entered as .0098.

Answer 1

Present Value of Investment A = 250 * PVAF (0.1101, 5) + 250

Present Value of Investment A = 250 * 3.6950 + 250

Present Value of Investment A = $1173.74

Investment in Stock B = Total Value - Value of Investment A = $2196.22 - $1173.74 = $1022.48

Expected Annual rate of Return on Stock B = Annual Dividend / Investment

Expected Annual rate of Return on Stock B = $43.20 / 1022.48

Expected Annual rate of Return on Stock B = $43.20 / 1022.48

Expected Annual rate of Return on Stock B = 0.0423