Question

Which assertion about the prices of stocks Kilo, Lima, Mike, and November is true? All 4...

Which assertion about the prices of stocks Kilo, Lima, Mike, and November is true? All 4 stocks pay annual dividends with the next dividend expected 1 year. The next expected dividend for stocks Kilo and Mike are expected to be different, as DM > DK > 0, and the next expected dividend for stocks November and Lima are expected to be the same. The dividends for each stock are expected to grow at a constant rate of G forever. The expected returns for stocks November and Lima are expected to be different, as RN > RL > 0, and the expected returns for stocks Kilo and Lima are expected to be the same. Finally, D > 0, R > 0, and G > 0.

A.

The price of stock Kilo is greater than the price of stock Mike and the price of stock Lima is greater than the price of stock November.
B.

Answer not listed or not possible.
C.

The price of stock Mike is greater than the price of stock Kilo and the price of stock November is greater than the price of stock Lima.
D.

The price of stock Kilo is greater than the price of stock Mike and the price of stock November is greater than the price of stock Lima.
E.

The price of stock Mike is greater than the price of stock Kilo and the price of stock Lima is greater than the price of stock November.
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Homework Answers

Answer #1

Correct answer is option (E)

As per constant dividend growth model ,

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

Therefore if we compare then given that dividend of Mike is greater than kilo and all else being same then stock price of Mike will be greater as dividend expected is directly proportional to stock price.

Now,given that expected return of November is greater than Lima and all else being constant then price of Lima will be greater than November because expected return is inversely proportional to stock price.

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