Question

Suppose you are looking for some investment opportunities in the stock market. 1. You observe that Google or Alphabet Inc. (goog) is currently traded at $1133 per share. However, it has never paid any dividends to its shareholders. Your friend concluded that the stock price of google is totally overvalued by applying the dividend discount model. Do you agree? Explain your answer. 2. A portfolio manager recommends you his mutual fund. He claims that the mutual fund he manages obtained a 10%, 6% and 8% return in the past three years, while the market return was only 8%, 4.8%, and 6.4% in the past three years. Based on this information, do you believe this manager is good at picking stocks? If not, what other information do you need?

Answer 1

1. The contention of my friend is wrong because Google is not to be valued according to dividend discounting model as Dividend discount model is not applicable for those stocks who are not paying any dividend & Google is not paying any dividend so dividend discount model is not applicable to google.

Dividend discounting model will be using futuristic dividend payments of a company in order to arrive at the intrinsic value by discounting at present value so, Google is not to be valued according to the dividend discount model as it is not associated with any dividend payment in the future and hence I will not be agreeing to the statement of my friend.

2. In this case, it can be seen that the manager has consistently beaten the index rate of return, But it will not mean that he is good at picking stocks, just because he has outperformed the index.

Additional informations, I will be needing about him is his overall risk exposure and his portfolio allocation along with his diversification skills and risk management skills which will be giving about an idea about the potential associated with investment with his portfolio as he may have been taking an excessive risk in order to make an excessive rate of return, so I will not be directly assuming looking at his portfolio returns that he is good at picking stocks.