Question

One year ago you bought a share of Bavarian Sausage stock for $46.50. During the year the stock paid a $2.75 dividend. You have decided to sell the stock exactly one year after the purchase (today).   If dividends are growing at 4% and the required rate of return is 9.42%, what is the percentage return of your stock investment?

a.	5.91%
b.	13.44%
c.	26.69%
d.	19.39%

Answer 1

Price of the stock in one year is calculated with the help of the dividend discount model.

It is calculated using the below formula:

Price of the stock today=D1/(r-g)

where:

D1=next dividend payment

r=interest rate

g=firm’s expected growth rate

Price of the stock today= $2.75*(1 + 0.04)/ 0.0942 – 0.04

                                             = $2.86/ 0.0542

                                             = $52.7675

Profit/Loss on stock investment= Ending stock price + Stock dividend – Beginning stock price

                                                             = ($52.7675 + $2.75) - $46.50

                                                             = $55.5175 - $46.50

                                                             = $9.0175

Return on stock investment= Profit/ Beginning stock price *100

                                                      = $9.0175/ $46.50 *100

                                                      = 0.1939*100

                                                      = 19.39%.

Hence, the answer is option d.

In case of any query, kindly comment on the solution.