Question

Choose all correct statements.

1. Dividend growth rate is equivalent to the dividend yield.

2. The total return on a stock is equal to the dividend yield plus the capital gains yield.

3.The benchmark PE ratio can be used to value the stock of firms that pay no dividends.

4.Assume the constant dividend growth model. An increase in the capital gains yield will increase the current value of a stock.

Choices

II, III and IV only

II only

II and IV only

II and III only

I and II only

Answer 1

The correct answer is II only.

2. The total return on a stock is equal to the dividend yield plus the capital gains yield.

The total return on a stock = Total dividend yield + Capital gain yield.

Total dividend yield is the dividend paid by the company as percentage of the price of the stock and capital gain yield percentage of increase in the price of the investment with respect to the purchase price.

Dividend yield and capital gain yield together defines the total return earned on the stock. Hence this option is correct.

Option 1 is incorrect as Dividend growth rate is different of dividend yield. Dividend growth rate is the growth in payment of dividend by the company on each stock and dividend yield is the dividend paid by the company as percentage of the price of the stock.

Option 3 is incorrect as PE ratio = Price / Earning per share . It is the ratio of how many times the price of the stock is to the earning on the stock. If the firm is not paying any dividend than the PE ratio of the firm will not be calculated and hence cannot be compared.

Option 4 is not correct as according to constant dividend growth model-

where, Po is the current market price.
D0= Dividend just paid by company.
g = Growth rate
Ke = cost of equity

The current market price is impacted by the dividend growth not the capital yield growth. Hence, it is incorrect.

Hope it helps!