Question

Tom purchased 100 shares of Dalia Co. stock at a price of $125.01 four months ago. He sold all stocks today for $125.13. During the year the stock paid dividends of $6.32 per share. What is Tom’s effective annual rate?

Answer 1

Solution:

The formula for calculating the holding period return is

= ( Sale price + Dividend earned during the holding period – Purchase Price ) / Purchase Price

As per the information given in the question is

Purchase Price : $ 125.01

Sale price : $ 125.13

Dividend per share = $ 6.32

Applying the above values in the formula we have

= ( 125.13 + 6.32 – 125.01 ) / 125.01

= 6.44 / 125.01

= 0.0515 = 5.15 %

Thus the HPR i.e., Holding period return is 5.15 %

The formula for calculating the Effective annual rate = ( 1 + Return ) ^{( 1/n )} - 1

Where Return = Holding period return = 5.15 % = 0.0515

N = No. of years = ( 4 / 12 ) years = 0.3333 years

Applying the above values in the formula we have

= ( 1 + 0.0515 ) ^{( 1 / 0.3333 )} - 1

= ( 1.0515 ) ³ - 1

= 1.1626 – 1

= 0.1626 = 16.26 %

Thus the Effective annual rate of Tom = 16.26 %

NOTE : The value of ( 1.0515 )³   has been calculated using the excel function =POWER(Number,Power). Thus =POWER(1.0515,3) = 1.1626