Question

In the constant growth model, which variable change will make the value of a stock go up, other things constant?

a.		A decrease in the next expected dividend.
b.		A decrease in the growth rate of dividends.
c.		An increase in the required return.
d.		A decrease in the required return.

Answer 1

Answer is Option d.

According to constant growth dividend discount model,

Value of share is represented as:

Where D1 is dividend expected next year, R is the required rate of return and G is the growth rate.

Now, value of stock, according to above formula, will go up if the numerator increases or denominator decreases.

Numerator increases when expected dividend increases.

Denominator decreases if required rate of return decreases or growth rate of dividend increases.

Based on this and options in question, correct answer is decrease in required rate of return.