Question

An investment that currently sells for $50 makes payments every year forever, which grow at 3% annually. If the next payment amount is $8, what is the annual return on this investment?

Answer 1

Calculation of annual return on investment:

Market price of investment = Next payment / ( Annual return - Growth rate )

$50 = $ 8 / ( Annual return - 0.03)

Annual return - 0.03 = $ 8 / $50

Annual return - 0.03 = 0.16

Annual Return = 0.16 + 0.03 = 0.19 i.e. 19 %

Note: Next payment already includes growth therefore growth is not added, if in the place of next payment current payment was given in the question the first we need to add growth in current payment.