Question

Jefferson's recently paid an annual dividend of $1.31 per share. The dividend is expected to decrease by 4% each year. How much should you pay for this stock today if your required return is 16%? A 5.5 percent coupon bond ( coupon rate=5.5%) has a face value of 1,000 and a current yield of 5.64 percent. What is the current market price?

Answer 1

a. The price that should be paid for Jefferson's stock today is $6.29.

b. The current market price is $975.18.

Step-by-step explanation:

a. Calculation of the price to pay for the Jefferson's stock today

This can be calculated using the following formula:

P = D / (r - g) ............................ (1)

Where;

P = Price per share today = ?

D = Next dividend = Current dividend * (1 + Dividend growth rate) = $1.31 * (1 + (-0.04)) = $1.31 * (1 - 0.04) = $1.31 * 0.96 = 1.2576

r = Required return = 16%, or 0.16

g = Dividend growth rate = -4%, or -0.04

Substituting the values into equation (1), we have:

P = 1.2576 / (0.16 - (-0.04))

P = 1.2576 / (0.16 + 0.04)

P = 1.2576 / 0.20

P = 6.29

Therefore, the price that should be paid for Jefferson's stock today is $6.29.

a. Calculation of the current market price

This can be calculated using the following formula:

Current market price = (Coupon rate * Face value) / Current yield ............ (2)

Where;

Coupon rate = 5.5%

Face value = $1,000

Current yield = 5.64%

Substituting the values into equation (2), we have:

Current market price = (5.5% * $1,000) / 5.64%

Current market price = $55 / 5.64%

Current market price = $975.18

Therefore, the current market price is $975.18.