Question

If a stock is currently trading for $25, and next year's dividend is expected to be $0.55, what is the implied required rate of return? Assume the dividends are growing at a rate of 2.5% for the foreseeable future.

Answer 1

Information provided:

Next year’s dividend= $0.55

Dividend growth rate= 2.5%

Current stock price= $25

The implied rate of return required is calculated with the help of the dividend discount model.

It is calculated using the below formula:

Ke=D1/Po+g

where:

D1= Next year’s dividend

Po=Current stock price

g=Firm’s growth rate

Ke= Required rate of return

Ke= $0.55/ 25 + 0.025

     = 0.022 + 0.025

     = 0.047*100

     = 4.70%.

Therefore, the implied rate of return is 4.70%.

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