Question

On the last trading day of 2013, an analyst is reviewing his valuation of ABC ordinary shares. The analyst has the following information and assumptions: i. The current price is sh 50. ii. The analyst estimate of the company’s intrinsic value is sh 55.00 iii. In addition to the full correction of the difference between the company’s current price and its intrinsic value the analyst forecasts additional price appreciation of sh 3.20 and a iv. cash dividend of sh 0.60 over the next year. v. The required rate of return of the company is 9%. What is the analyst’s expected holding period return of the company?

Answer 1

The analyst's expected holding period return of the company can be calculated as follows: the initial price is sh 50.00, the expected price appreciation is sh 3.20, and the cash dividend is sh 0.60. The total return over the holding period is sh 3.80 (sh 3.20 + sh 0.60). The expected holding period return, incorporating the total return, is 7.6% (sh 3.80 / sh 50.00).

Step-by-step explanation:

The expected holding period return accounts for both price appreciation and dividends. To compute this, the analyst begins with the initial price of sh 50.00. Then, the forecasted additional price appreciation of sh 3.20 and the cash dividend of sh 0.60 are added together, resulting in a total return of sh 3.80 over the holding period. To determine the expected holding period return, divide the total return (sh 3.80) by the initial price (sh 50.00), yielding a return of 7.6%.

This calculation incorporates the estimated price appreciation and the cash dividend expected over the holding period, taking into account the initial price. The required rate of return of 9% is not directly used in the computation of the holding period return; instead, it serves as a benchmark against which the expected return can be compared. In this scenario, the expected holding period return of 7.6% falls below the required rate of return of 9%, suggesting that the investment may not meet the investor's expected return threshold. Investors often use the expected holding period return to evaluate whether an investment aligns with their desired return expectations given the associated risks.