Question

The following stock quotation for McDonald reported on Friday, May 8, 2020 when

      market closed at 4:00 PM Eastern time

McDonald's Corp. (MCD) -NYSE

182.66 -4.90 (-2.61%) At close: May 8 4:00PM EDT

Previous Close	187.56	Market Cap	135.81B
Open	184.00	Beta (5Y Monthly)	0.60
Bid	182.45 x 800	PE Ratio (TTM)	23.91
Ask	182.85 x 1000	EPS (TTM)	7.64
Day's Range	182.15 - 185.54	Earnings Date	Jul 28, 2020
52 Week Range	124.23 - 221.93	Forward Dividend & Yield	5.00 (2.74%)
Volume	3,764,754	Ex-Dividend Date	Feb 28, 2020
Avg. Volume	5,705,392	1y Target Est	202.93

1. What was May 8th close price of McDonald stock? How did it change from previous day (May 7th )?

2. If you purchased McDonald stock at the 52 weeks low and sold it at close price on May 8, 2020. You have received dividend during this holding period. Calculate your holding period rate of return

3. Show how the 2.74% yield is calculated.

4. Currently, the 3-month T-bill interest rate is 0.5%, and required return for the stock market is 12%. Calculate required rate of return for McDonald stock using the CAPM model.   

5. Assume the dividend growth rate is 5%, calculate the true value and annual rate of

  return of McDonald stock using Gordon model.  

6. Draw a security market line (SML) using the data above. Determine the intercept

  and slope of the SML

1. According to the CAPM model, will you buy McDonald stock or not? Why?

Answer 1

May 8th closing price = 182.66

It decreased by 4.90 in price or 2.61% as compared to May 7th

52 week low price = 124.33

Holding period return = (182.66-124.33)/124.33 = 47.92%

Yield = forward dividend/closing price = 5/182.66 = 0.0274 = 2.74%

Required rate of return using CAPM = Rf + beta*(Rm - Rf) = 0.5%+0.6*(12%-0.5%) = 7.40%

P: price of stock using Gordon model

D1: next dividend = 5

g: dividend growth rate = 5%

Ke: cost of equity = 7.4%

P = D1/(Ke-g) = 5/(7.4%-5%) = 208.34

Annual rate of return = Ke = 7.4%

Let y proportion be invested in stock and 1-y in risk free t-bills

E(r): expected return of portfolio

E(r) = (1-y)*Rf + y*(Rf + beta*(Rm-Rf))

E(r) = Rf + y*(beta*(Rm-Rf))

E(r) = 0.5% + y*(0.6*(12%-0.5%))

E(r) = 0.5% + y*6.9%

Intercept = 0.5%

Slope = 6.9%

According to CAPM model: return on stock = 7.4%

market return = 12%

since return on stock < market return, you should not buy the stock as per CAPM