We use the dividend valuation model to value the price of the stock. As an investor...

We use the dividend valuation model to value the price of the stock. As an investor how do you get value by investing in a stock? Why does the stock valuation technique discussed in the module making sense to you or why not? What about the stock you invested never paid a dividend?

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As an investor I get value by investing in a stock in the form of capital gains that accrue to me when market price of the stock that I have invested in increases. Each stock has a fair value or an intrinsic value and the market price at which a stock is trading is not usually the same as the fair price but is either higher or lower than the fair price. When the market price is lower than the fair price the stock is said to be undervalued and hence there is an upside potential to it. In future, when the market price rise, the value of my holding increase. Additionally I get value by investing in a stock when the company pays regular dividends on the stock.

The stock valuation technique makes sense to me because value of an asset is equal to the present value of all future cash flows that can be generated from the asset. For equity holders in a company the stock held by them is an asset for them and they receive cash flows in the form of dividend payouts. Thus the amount that they will pay for this asset (i.e. the equity stock) would ideally be the present value of all the future dividends that they will receive on the stock.

In case the stock that I invested in never pays a dividend then the expected future cash flows will be the sale price of the stock. In essence what dividend discount model does is that it computes the present value of all future cash flows associated with a stock. Besides dividend the expected future sale price of a stock is also a future cash flow and this hold value to me as a stockholder. Suppose that I own a stock of GE which I can sell for $1,000 after a period of 20 years (assuming here that GE does not pay any dividends). The value of this stock will be the present value of $1,000 which is the expected future sale price of the stock.

jeff jeffy answered 1 year ago

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