Question

Which assertion about stocks gamma, Hotel, India, and Juliet is true if PH > PJ > 0 and PI > PG > 0? And:

• All 4 stocks pay annual dividends with the next dividend expected to be paid in 1 year.
• The dividends for each stock are expected to grow at a constant rate of G forever.
• The expected returns for stocks Juliet and Hotel are expected to be different, and the expected returns for stocks India and Gamma are expected to be the same.
• The next expected dividends for stocks India and Gamma are expected to be different and the next expected dividends for stocks Juliet and Hotel are expected to be the same.
• Assume all expected dividends, growth rates, and returns are positive and all expected growth rates are less than all expected returns.

	A.	The expected return of stock Hotel is greater than the expected return of stock Juliet and the next expected dividend of stock India is greater than the next expected dividend of stock Gamma.
	B.	Answer not listed or not possible.
	C.	The expected return of stock Juliet is greater than the expected return of stock Hotel and the next expected dividend of stock Gamma is greater than the next expected dividend of stock India.
	D.	The expected return of stock Juliet is greater than the expected return of stock Hotel and the next expected dividend of stock India is greater than the next expected dividend of stock Gamma.
	E.	The expected return of stock Hotel is greater than the expected return of stock Juliet and the next expected dividend of stock Gamma is greater than the next expected dividend of stock India.

Answer 1

Correct answer is option (D)

As per dividend constant growth model.

Price of stock =Dividend next year /(Expected return -growth rate)

Hence we can interpret from formula that price and expected dividend are directly proportional to each other .

Therefore if price of India is greater than Gamma then expected dividend of India would be greater and all else being constant

And price and expected return are inversely proportional to each other .Therefore expected return of Juliet is greater than Hotel and all else being constant