Question

You buy 100 shares in Bondex Corporation for $25 a share. Each share pays $1 in dividends every three months. You have a five-year holding period and expect to invest all dividends received in the first two years at 6 percent, and all dividends received the next three years at 9 percent. Calculate your expected total return (as a percentage yield) if you can sell the shares at $30 each after five years.

Answer 1

Timeline would look like below:

Months 0 3 6 9 12 15 18 21 24 27 30 33 36 39 42 45 48 51 54 57 60

Amount $ 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1

received 30

As there are 100 shares each 3 months $100 dividend would be received instead of $1 dividend shown in above table .

Thus future values need to be calculated using financial calculator

PV =0 , PMT = 100 , N =8 , I/R =6%/4 = 1.5% CPT FV = $843.28 at 24th month

We need to take it forward to 60th month

PV = 843.28 , N = 36, PMT = 0, I/R = 1.5 % CPT FV = 1441.28

In second part 9% interest rate is applied thus

PV = 0 PMT = 100 , N =36 , I/R =9%/4 = 2.25% CPT FV = $1360.22

Total future cash outflow at the end of 5th year = 1441.28 + 1360.22 + 30×100( selling price of stock × no. Of stocks ) = $5801.5

Total cash inflow = 25 × 100 ( buying price of stock × no. Of stocks) = 2500

Thus return =( outflow - inflow ) / inflow = (5801.5 - 2500 )/ 2500 132.06%